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The confidence game

When the private market fears that the government is running high deficits that it won't be able to repay, interest rates rise. It's the market's way of charging us for the increased risk. But interest rates on U.S. debt are not rising. That's a problem for people who think the deficit is a major issue: You're asking the government to go on a diet, but at the moment, it's not gaining any weight, and is in fact losing some.

So we're seeing the rise of a new argument: Companies and consumers aren't spending because they're scared off by government borrowing. As David Brooks put it in his column yesterday, "debt-fueled government spending doesn’t increase confidence. It destroys it."

The virtue of this argument -- and the frustration of it -- is that it's unfalsifiable. It's not based on any data. It doesn't even use any data. In fact, as Paul Krugman points out, it's contradicted by the data: The fall in business investment has been substantially less than the tumble in economic output, suggesting that business is more confident than the fundamentals would predict, not less.

Nor is it obvious that the American public is really that afraid of deficits. We have a lot of polls showing that voters are more concerned about jobs than deficits. And we can even stack the deck a bit: The recent NYT/CBS poll (pdf) of self-identified tea partiers found that only 11 percent thought the deficit was the most serious problem facing the country. Only 1 percent said the increase in the deficit was the worst thing Obama had done. And a plurality preferred cutting taxes to reducing the deficit.

Nor is the deficit the most obvious theoretical culprit for business behavior: It seems likelier that companies aren't spending because, with unemployment at 10 percent and underemployment near 15 percent, there's no demand for their goods. Another possible theory is that companies and individuals fear another recession or crisis, and so they're hoarding money in order to ensure they can ride it out. The idea that small businesses are actually hoarding money because they're worried about taxes 10 years from now seems, well, like a reach.

But though there's no obvious data in support of the hypothesis that deficit concerns are driving economic performance, and though it's far from the only theory on the table, it's gaining ground very rapidly. I'll leave speculation on why that is as an exercise for the reader.

By Ezra Klein  |  July 7, 2010; 2:46 PM ET
Categories:  Economy  
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Comments

The rise of all this deficit handwringing is the GOP's oldest trick in the book. Financially strapped white middle-class and working-class voters should be concerned about deficits (so the argument goes) because we all know what government spending means: your hard-earned dollars are supporting those welfare queens and their brown-skinned children. Never a word about cutting military spending or raising taxes on the affluent to Clinton-era levels.

Alas, there are too many in Washington, D.C. wedded to this idea. Like, say, 98% of the opinion writers at your paper, Ezra. If you're really worked up about the direction of this debate, then I suggest you target the moronic stylings of Broder and Samuelson. Look what happened when Krugman threw a bomb at his colleague Brooks: his traffic spiked. Yours can, too.

Posted by: scarlota | July 7, 2010 3:16 PM | Report abuse

I think economists and people like you think the housing bubble is completely over. The previous level of consumer spending was driven by unsecured and housing credit. It is completely unsurprising that the level of spending has not immediately returned to that level, or to that rate of increase...

Also, we had a stock market crash where a lot of people sold near the bottom, they are now saving more to get back to their previous balances. My mom is calling me asking me where to put all of the money that is in her money market fund he needs to live off of for the next ?? years. She needs some income off of that money, she can't just live off of the principal. Low interest rates drive people into riskier investments...like US Treasuries!

I am saving a lot of money now for when taxes go up. If my income drops by the expected amount next year, I am going to have a hard time paying for my kid's school.

The thing you deficit lovers forget, is the the bill will come due. We are trading credit fueled stimulus today for a budget that is 10% interest payments tomorrow.

[the blow is from EconLog, by Russ Roberts]
June 28th headline in the New York Times:
"In Ireland, a Picture of the High Cost of Austerity"
June 30th headline in the New York Times (from the Associated Press):
"Ireland’s Economy Posts First Growth in Two Years"

Posted by: staticvars | July 7, 2010 3:18 PM | Report abuse

From the standpoint of a business owner (such as myself), the deficit concerns me far less than do the implicit and explicit tax increases needed to pay for both the existing deficit and new spending.

For example, we now pay 50% of the cost of each employee's health insurance, with most employees electing to pay the remainder of the cost of coverage for their families. In September, we will have to pay 100% of the cost of coverage and there will be a requirement for additional coverage. To meet the additional cost burden, we must either layoff a number of employees and/or cut the wages of each employee. We though about raising the prices we charge for goods high enough to cover the new costs, but the resulting prices are higher than the market will tolerate, so it's not a possibility.

If you're looking for data, there it is! A number of businesses -- Verizon, AT&T, Exxon, and numerous others were invited to the House to share the real-life numbers, but alas the meeting was canceled by Representatives too afraid to hear the truth.

Why are real-life numbers from living, growing businesses discounted as not fitting an economic theory? Is it possible that the economic theory fails to fit reality?

The fact remains that some individual taxpayer must pay for each and every government program: there are no government dollars, only government-collected taxpayer dollars.

Posted by: rmgregory | July 7, 2010 3:37 PM | Report abuse

The Reaganic alchemical formulary continues to implode for U.S. conservatives, and so now David Brooks lectures us about psychology.

Perhaps we're actually watching another real educational moment for the Republicans. This one directly concerns the fact that it is impossible to deny that a short-term stimulus is the best thing to do at this very moment, and that even a huge stimulus ends-up being a tiny bump in the long-term scheme of things.

This reality poses intellectual stumbling-blocks in the conservative Republican argument, along several conceptual avenues.

So their argument has already moved to what happens after the stimulus: that it must be likely to have a bad outcome.

Pursuing this, we find again that handful of remarkable mental double-binds the Republicans have talked themselves into, endearing them to pathologists everywhere:

(1) The Republicans are saying people don't have confidence because we can't trust politicians, but THEY are the politicians we can't trust. Indeed the Democrats recently performed a great service, although none of their idiotic supporters appears to have noticed: according to the new CBO report, the long-term budget outlook is more or less in balance with revenues. Clinton did it before. The Republicans have never done this.

This current long-term budget balance depends on Congress not doing anything to upset it -- no extension of the Bush Tax Cuts, no loopholes to anybody else. To be sure, the CBO assumes that politicians keep their current word, and also the CBO couldn't analyze Obamacare more than 20 years out -- though perhaps they even underestimate its savings.

But hey, the long-term budget is in balance! Shout it from the rooftops!

So what is the Republican political strategy now? Is it to convince people to say "This will be hard to achieve" so the Republicans say "Vote for us, we'll do something else"? But what, exactly, are they going to do? St. Ronnie and Dubya are the two recent Presidents who blew the long-term deficits up bigger than anyone else with their long-term policies. Bush policy not only put us into deficits, it added to the long-term deficit and is responsible for well over half of the CURRENT deficit. Republicans are now officially the worst of the spendthrifts. So if the Republicans have already insisted that Congress will be giving out loopholes and destroying the budget in the future, then aren't they the ones who can't be trusted?

In essence the Republican position is, "Business is always smarter than government, but WE became politicians." Do you really want these people in charge?

Posted by: Lee_A_Arnold | July 7, 2010 3:51 PM | Report abuse

[continuing--]

(2) Which brings us to their only solution, and another big Republican contradiction: the steady mantra that deregulation and tax cuts are better for the economy. The trouble is, that's only sometimes true, as it clearly isn't true right now. So the Republican pundits are turning inside-out to avoid saying it. You would be expelled from cocktail parties for contradicting this dogma.

Now, we know that tax cuts, of some kinds, at some times, may boost a short-term stimulus. But the effects of tax cuts on long-run economic growth have always been modest -- both Ronnie's and Dubya's tax cuts are guilty of this -- so modest indeed, that the question always arises of the lost opportunity costs, such as in lost social welfare measures, for example. Is the total economy actually poorer off? It can be hard to say. For example, the Bush Tax Cuts have not replenished the Social Security Trust funds which they so handily drained. Did they even "pay for themselves" yet?

(3) Which brings us to another blindness. The success of the Republican rhetoric with the American public has also depended upon a confusion of "short-term" and "long-term".

This may have started-out deliberately, to control the debate, but then become lost to frontal consciousness as a mere habit of mind: a common cognitive bias, no doubt having some technical name which those who study psychology will recognize.

For example, their rhetoric depends mightily upon a confusion of the idea of "stimulus" with the idea of "growth". This is a short-term/long-term confusion. Stimulus is short term, against a business cycle. But "growth" is long-term economic growth, which depends upon innovation, which in turns depends upon education. A tax cut may give a little cyclic boost, but upon it they claim the innovative wonders of modern science and technology.

(4) Finally, because cake doesn't get more deliciously poisonous than when icing is on it: the current episode shows that the Republicans can't even claim that market prices transmit information, because if this were true, then according to Republican fears, long-term interest rates would be higher. So Republicans are either theoretically wrong, or psychologically wrong.

In short, David Brooks' column is another rhetorical straddle, engendered by the problematic premises from 1 to 4. Despite what he writes, there are demand-siders with a perfectly good working explanation of the last two years. The reason he gets this wrong is that he has to set up a straw man to oppose, in order to come to precisely the demand-siders' conclusions. This is where the evils of Republican rhetoric have driven him; it's as insidious as booze and pills.

Posted by: Lee_A_Arnold | July 7, 2010 3:52 PM | Report abuse

"The virtue of this argument -- and the frustration of it -- is that it's unfalsifiable. It's not based on any data. It doesn't even use any data. In fact, as Paul Krugman points out, it's contradicted by the data: The fall in business investment has been substantially less than the tumble in economic output, suggesting that business is more confident than the fundamentals would predict, not less."

Ezra, this isn't quite correct. The relevant metric isn't business investment as a % of GDP, but net business investment. Net business investment tells a bleaker story than gross business investment.

There was a large business investment boom in the 1990s, and so there could be a sharp pullback in new investment in the early 2000s because there was a large amount of new capital. New capital formation increased by 4.5% of GDP in 2000, and this fell to 1.8% or so of GDP in 2002. As the next boom took hold, capital formation increased to 3.2% of GDP in 2007, slightly above the 1989-2010 average of 2.8%. However, for the 2009Q2-2010Q1 period new capital formation was only 0.8% of GDP.

Consider the context. In the wake of a massive buildup of new capital, businesses in 2002 were still willing to increase their collective stock of capital to the tune of 1.8% of GDP, whereas after a modest cylical upturn which took capital formation rates up to average levels, firms are now willing to only increase their capital stock by 0.8%. Another way to put this is that about 19.2% of businesses investment went to increase the capital stock in 2002, but over the past four quarters only 8.8% has (35% in 2000, 27.5% in 2007 and 24.7% long-term).

I think the net investment numbers suggest that businesses are very reluctant to commit to new investment, far more than Krugman's high level analysis suggests.

For data, see BEA's tables 1.1.5 and 5.1.

Posted by: justin84 | July 7, 2010 3:59 PM | Report abuse

Duh.

Republicans want the economy in the toilet, and they want people to be disgusted with Washington.

And the Dems, being "oh so serious," play along.

Posted by: AZProgressive | July 7, 2010 4:10 PM | Report abuse

Justin84, how has capacity utilization changed over the same time periods?

Posted by: Lee_A_Arnold | July 7, 2010 4:21 PM | Report abuse

"So we're seeing the rise of a new argument: Companies and consumers aren't spending because they're scared off by government borrowing. As David Brooks put it in his column yesterday, "debt-fueled government spending doesn’t increase confidence. It destroys it."

It isn't necessarily the case that businesses need to be 'scared of government spending'.

When the government runs a deficit, it creates a liability to someone else on its books. If foreigners aren't willing to pick up the whole deficit, then the private sector is where the corresponding asset is created. We can curse the private sector for saving, or we can realize that the money had to come from somewhere, and the sector where the money comes from will appear to be saving. It isn't a free lunch if China buys our debt either. Had the government bonds not been issued to China, China might have instead bought riskier assets (boosting our equity markets, bank capital or real estate), or it could have bought more of our exports.

In a very uncertain economic period, the government created trillions of dollars worth of risk-free assets. Some companies and banks for that matter ended up buying some of those bonds rather than putting their money to work elsewhere. This is why you can't just look at stimulus spending and say - hey look, Bob is unemployed and is now spending his UI check, stimulating the economy. Any stimulus can only be net of what spending was lost via the borrowing.

This doesn't mean stimulus cannot work. If by shifting the pattern of spending the velocity of money rises, fiscal stimulus can in theory increase aggregate demand and lift output, prices and employment. However, we have a central bank which is wary about any extra increase in aggregate demand which might threaten what it views as long run price stability and the bank's 'credibility'. If the central bank isn't on board, your fiscal stimulus is going to be offset as the bank runs a tighter monetary policy (relative to what it would have done without fiscal stimulus).

Posted by: justin84 | July 7, 2010 4:21 PM | Report abuse

Lee,

Capacity utilization for industry crashed in both cases. From ~82% to ~74% during the last recession and ~81% to ~68% this time around. Given the recovery in industrial production, capacity utilization today is about where it was at the start of 2002 - 74%.

http://research.stlouisfed.org/fred2/series/TCU?cid=3

Manufacturing is now a fairly small proportion of the economy, and I don't have relevant data for the service sector. My intuition (educated guess) is that given the severe drop in industrial output, that the service sector didn't see nearly as severe hit to 'excess capacity', although neither has there been much of a recovery on that front either.

Posted by: justin84 | July 7, 2010 4:34 PM | Report abuse

Lee,

"The Republicans are saying people don't have confidence because we can't trust politicians, but THEY are the politicians we can't trust. Indeed the Democrats recently performed a great service, although none of their idiotic supporters appears to have noticed: according to the new CBO report, the long-term budget outlook is more or less in balance with revenues. Clinton did it before. The Republicans have never done this."

Well, the primary budget will roughly balance. The 3-4% of GDP that will be taken up by interest payments is on top of that. So we'll have deficits of about 3-4% of GDP, basically the same as 2003-2004 under Bush. And under CBO projections, the economy appears to hit full employment by 2016 or so and then stays there during the projection period - no additional room for things like stimulus or other emergency spending or even taking into account lost revenue during a recession.

So barring any disasters the long-term budget outlook is sustainable, but it was much better under Clinton.

Posted by: justin84 | July 7, 2010 4:45 PM | Report abuse

"it's unfalsifiable ... it's contradicted by the data"

???

Posted by: vince432 | July 7, 2010 4:59 PM | Report abuse

--"When the private market fears that the government is running high deficits that it won't be able to repay, interest rates rise. It's the market's way of charging us for the increased risk. But interest rates on U.S. debt are not rising."--

The market is selling the government the rope with which it will hang itself, Klein. When interest rates begin to rise, as they inevitably will, it will be too late. All those ten year bonds sold at unbelievably low interest rates will begin to burn holes in their owner's pockets. And when the government then goes to the well yet again, as it inevitably must repeatedly go, the proverbial fan-hitting stuff will fly in abundance, and no amount of you've been told and told and told will yet make a dent in that thick melon of yours, so thick is it.

Posted by: msoja | July 7, 2010 5:47 PM | Report abuse

Justin84: "The 3-4% of GDP that will be taken up by interest payments is on top of that."

Yes but if the budget is in rough balance, mightn't you roughly be paying that down?

Posted by: Lee_A_Arnold | July 7, 2010 5:54 PM | Report abuse

justin84: "If foreigners aren't willing to pick up the whole deficit, then the private sector is where the corresponding asset is created."

Even if foreigners buy the bulk of U.S. debt, they are still going to be paid back, with interest, out of the U.S. private, producing sector. Private business is on the hook, no matter who the government entices with its implicit guarantees.

Posted by: msoja | July 7, 2010 6:01 PM | Report abuse

Justin75: "If the central bank isn't on board, your fiscal stimulus is going to be offset as the bank runs a tighter monetary policy (relative to what it would have done without fiscal stimulus)."

Right, but that's not currently an issue in the United States, where the Federal Reserve has been keeping the federal funds rate as low as possible ever since December 2008. The point of stimulus spending is that the Federal Reserve can't lower interest rates any further, so we need to use a different method to put money into the economy.

Posted by: KennethAlmquist | July 7, 2010 6:02 PM | Report abuse

ps. I think Lee_A_Arnold is lying about the latest CBO report.

http://imarketnews.com/?q=node/15917

Posted by: msoja | July 7, 2010 6:10 PM | Report abuse

Kenneth,
"Right, but that's not currently an issue in the United States, where the Federal Reserve has been keeping the federal funds rate as low as possible ever since December 2008. The point of stimulus spending is that the Federal Reserve can't lower interest rates any further, so we need to use a different method to put money into the economy."

Fiscal stimulus doesn't put money into the economy. It takes money from one place via taxes or borrowing, and moves it to someone else via spending.

Also, the Fed can lower interest rates further. The 10 year is trading at 3%. The Fed can buy USTs until the interest rate drops to 2.75%, or 2.25%. It can buy MBS. It can buy investment grade corporate bonds. It can stop paying interests on bank reserves.

Conversely, the Fed can decide to stop buying MBS because it would rather limit the growth of aggregate demand, which it did earlier this year. Or it could decide not to increase the monetary base further. Monetary policy has not run out of room - the Fed isn't doing anything else because, as Bernanke has said, it is worried that it would lose credibility as an inflation fighter.

Monetary policy doesn't put real wealth into the economy either, as new money steals purchasing power from existing money, but if you want reflation monetary policy is the most efficient way to go.

Posted by: justin84 | July 7, 2010 6:38 PM | Report abuse

Msoja,
"Even if foreigners buy the bulk of U.S. debt, they are still going to be paid back, with interest, out of the U.S. private, producing sector. Private business is on the hook, no matter who the government entices with its implicit guarantees."

Oh I completely agree. I just wanted to focus on the fact that since foreign lenders aren't taking all of our debt, some of the new government debt has to show up as private savings today, and thus we shouldn't be shocked at news that the private sector is increasing its savings rate.

Private business is certainly on the hook for repayment of interest on the debt. This is why I don't like fiscal stimulus. Even supposing it works, we end up poorer in the long run. Say the stimulus increases GDP by 2% today, then when the stimulus goes away GDP falls by 2%, then GDP is lower by, say, 0.1% each year into the future as we make our interest payments, at least by Keynesian logic.

Posted by: justin84 | July 7, 2010 6:46 PM | Report abuse

"Justin84: "The 3-4% of GDP that will be taken up by interest payments is on top of that."

Yes but if the budget is in rough balance, mightn't you roughly be paying that down?"

In nominal terms, no, it means you're running a deficit of 3-4% of GDP. As a percent of GDP the debt stabilizes at 63% of GDP (assuming 5% nominal GDP growth, 3% deficit) or 84% of GDP (5% NGDP growth, 4% deficit). As I said, this is sustainable, but it doesn't allow for a lot of flexibility. One recession probably puts the deficit back up to 5%-6% of GDP, perhaps more, and there will be periodic recessions.

Of course, this also assumes a very optimistic path for policy. No AMT fixes (which eventually puts the middle class into a 26% or 28% flat tax), no stimulus packages, no wars, etc.

Posted by: justin84 | July 7, 2010 7:13 PM | Report abuse

Justin84: "In nominal terms, no... One recession probably puts the deficit back up to 5%-6% of GDP..."

You are claiming on the one hand that under a rough balance there won't be occasional surpluses to decrease the long-term deficit, but on the other hand that there will be periodic recessions to increase it.

Observe also that Pessimism may be a recent rule of thumb, but it hasn't been leading to a Plan.

If we stick to Paygo, then should start by paying for a recession's short-term deficits, during the following boom. As well as balancing the long-term policies, thereby making sure that "everything that moves truly has to be deficit-neutral, as Milton Friedman first recommended back in the late 1940s that spending and tax bills needed to be conjoined twins" (Brad DeLong)

What else have you got? Speak up. If you want to decrease the long-term deficit further than, say, Obamacare does, then let's hear any proposal, costed-out. Then get Congress to vote for it. Make sure that after 20 years, it is analytically tractable.

Long-term paygo makes sense, given the uncertainties.

For another uncertainty, CBO is likely to be lowballing future productivity.

Posted by: Lee_A_Arnold | July 7, 2010 9:15 PM | Report abuse

Justin84: "This is why I don't like fiscal stimulus. Even supposing it works, we end up poorer in the long run."

Fiscal stimulus has been used for centuries. Have we ended up poorer in the long-run? No. Fiscal stimulus has almost nothing to do with the long run. Fiscal stimulus is short-term. Don't confuse short-term with long-term.

In fact, even the long-run moderate growth in the size of government has had very little impact on economic growth. Don't confuse this with short-term business cycle snafus, even the financial debacle.

See for example the historical evidence in Peter H. Lindert, Growing Public: Social Spending and Economic Growth Since the Eighteenth Century (2004).

Any moderate size of government is not by itself a problem. There are formal reasons why this must be so. For one thing, the liberal mixed economy doesn't run by static blackboard equations, it's a complex dynamic cycle of savings, spending, investment that has supported innovation quite well. For another thing, governments are, just like business firms, institutions that reduce transaction costs. This can and does cause more personal free time, which can be spent in leisure or in productive creativity.

Posted by: Lee_A_Arnold | July 7, 2010 9:50 PM | Report abuse

--"If we stick to Paygo [...]"--

An utter impossibility, and still immoral in an ostensibly free country where individuals exercise self-governance.

Posted by: msoja | July 7, 2010 10:44 PM | Report abuse

The confidence argument is a confidence game, pure and simple. As you and Krugman point out, it's contradicted by the evidence. But it is a useful way for the wealthy right wing to advance their own agenda of low taxes and cuts to programs that benefit anyone else but them. What horrifies me is the degree to which the MSM is picking up their line without examining it. Keep up the good work, Ezra.

Posted by: mmpd | July 7, 2010 11:06 PM | Report abuse

hey lookey here. You want confidence? How can you have confidence in a government that tangles small businesses in such red tape that it makes more sense to go out of business.

http://www.usatoday.com/money/smallbusiness/2010-07-08-taxreporting08_ST_N.htm

So businesses struggling now will have to HIRE people to manage their 1099 forms required?


How bout this?

http://online.wsj.com/article/SB10001424052748704324304575306861120760580.html?mod=WSJ_hp_mostpop_read


Posted by: visionbrkr | July 7, 2010 11:32 PM | Report abuse

Ezra: Just because 'not enough' people are 'scared' about the deficit, or businesses aren't behaving due to being 'scared' of the deficits......does NOT mean it's not incredibly dangerous to be adding 12% of GDP to the national debt each year now -- our current rate of addition. And you state in your 1st paragraph that the govt is 'losing weight'. NOT TRUE. Our national debt is growing by about 12%/year at the insanely high level of deficit-spending that's occurring. This is DANGEROUS. This is Greece-like. You are ignoring the calamity that will ensue. And Obama's NOT doing it (with Pelosi and Reid) to CREATE jobs. And the repayment of such debt in the future by means of higher taxes will KILL JOBS IN THE PRIVATE SECTOR. This is why we need to reduce spending and reduce tax rates. Federal incl FICA & state inc and real estate taxes that take 50% of marginal taxes out of a family making $150k/year is INSANE, and it's happening. Jeesus, f'ing Christ. You liberal economists (incl Krugman) are freaking clueless!!!!!!!!!!!!!!!!!!!

Posted by: sbourg55 | July 8, 2010 2:56 AM | Report abuse

It's pretty simple for me.

I recognize that the debt is unsustainable, that the government is propping up prices and businesses everywhere, and that when the government defaults on it's debt (either partially or in whole) that all hell is breaking lose - so I have moved my assets into something that is not dollar denominated and I'm sitting tight for the storm.

I don't know how many people are doing that, but all the smart ones are, and they generally have the most capital to throw around.

Posted by: fuzzywzhe | July 8, 2010 3:27 AM | Report abuse

As much as it seemed wrong to me from a common sense perspective, further monetary stimulus, looking beyond ZIRP, the kind that reduces the real value of the debt (not just the deficit) is looking to be our only way out. The sticky wage problem, where we can't drop wages enough for our unskilled workers to compete with lower wage unskilled workers in other countries, is unsolvable while we have people dependent on Union votes running things. So, we must cause inflation...

Posted by: staticvars | July 8, 2010 10:32 AM | Report abuse

Lee,

"You are claiming on the one hand that under a rough balance there won't be occasional surpluses to decrease the long-term deficit, but on the other hand that there will be periodic recessions to increase it."

It's not a rough balance. It's a rough primary balance. With interest payments, the deficits will be 3%-4% of GDP. This level of deficit is what got Democrats so upset about Bush in 2004. Bush never saw a surplus even as unemployment fell to 4.4% in early 2007.

Furthermore, the CBO projections assume unemployment falls to 'full employment' levels, usually about 5%, and stays there. The variance around that number is asymetric. In a good expansion, unemployment falls to 4%-4.5%. In a recession, unemployment usually rises to something like 6%-8%. The 30 year average to 2007 (so as to exclude the last recession) for unemployment was 6.1%, higher than the government typically uses for these types of projections.

"Fiscal stimulus has been used for centuries. Have we ended up poorer in the long-run? No. Fiscal stimulus has almost nothing to do with the long run. Fiscal stimulus is short-term. Don't confuse short-term with long-term."

When I say poorer, I mean poorer relative to the baseline growth trend.

If you believe fiscal stimulus lifts GDP, then you probably should believe the loss of fiscal stimulus reduces GDP by a roughly proportional amount - furthermore, paying back the debt used to fund the stimulus reduces future GDP.

If you don't believe fiscal stimulus lifts GDP, then you don't believe the loss of fiscal stimulus or repaying the debt makes much of a difference either. You need to compare return on investment for the stimulus and for what the private sector would have invested in. Most of the time, the private sector earns higher returns on its spending, and so that would suggest fiscal stimulus makes us poorer in the long run, again relative to baseline.

"If we stick to Paygo, then should start by paying for a recession's short-term deficits, during the following boom."

If we stick to Paygo.

"What else have you got? Speak up. If you want to decrease the long-term deficit further than, say, Obamacare does, then let's hear any proposal, costed-out."

I'd bail on the wars and reduce military spending. Being the world's policeman is a waste of money. Also, I'd put government healthcare spending on a budget capped at a fixed % of GDP. I'd guess those two things would go a long way, but good luck getting Congress to approve.

Posted by: justin84 | July 8, 2010 11:38 AM | Report abuse

Justin84: "It's not a rough balance. It's a rough primary balance."

"Primary" balance? A new term? But then, why did you imply that cyclical deficits will make it worse? You wrote, "One recession probably puts the deficit back up to 5%-6% of GDP, perhaps more, and there will be periodic recessions."

On the other hand, if your real argument is that we won't stick to Paygo, then it is no longer an argument about economics.

(Bush "never saw a surplus" because he was never in "primary" balance.)

Justin84: "When I say poorer, I mean poorer relative to the baseline growth trend... If you don't believe fiscal stimulus lifts GDP, then you don't believe the loss of fiscal stimulus or repaying the debt makes much of a difference either... Most of the time, the private sector earns higher returns on its spending, and so that would suggest fiscal stimulus makes us poorer in the long run, again relative to baseline."

No, no, no. Again, you are confusing short-run with long-run. A lack of stimulus may make a BIG difference, inflicting needless suffering over a short-run downturn -- as in the present case. Needless and unwarranted, because the business cycle does not appear to be caused by the moral failure of humans.

The long run has very different factors and dynamics. Forget about what things "would suggest", and look at the evidence instead. Where is your evidence a stimulus makes us poorer next to a baseline growth trend, OVER THE LONG RUN? There is none. The little kinks in the long-run GDP growth charts are from the Depression and the few very biggest recessions, not from stimuli.

Posted by: Lee_A_Arnold | July 8, 2010 12:59 PM | Report abuse

Lee,

"Primary" balance? A new term? But then, why did you imply that cyclical deficits will make it worse? You wrote, "One recession probably puts the deficit back up to 5%-6% of GDP, perhaps more, and there will be periodic recessions."

It looks like you are confusing the term 'primary deficit' with 'structural deficit' here. Cyclical fluctuations impact the primary deficit but not the structural one.

Presume the CBO report you orginally cited was the one which included this chart.

http://voices.washingtonpost.com/ezra-klein/2010/07/the_importance_of_getting_spec.html

Notice the phrase 'primary spending'. Primary spending means spending outside of interest payments. So the budget is balanced in terms of revenues covering non interest expenses. But we're running up a lot of debt, so interest expenses will probably be in the 3-4% of GDP range by the end of the decade. So the total deficit will be 3-4% of GDP, under an optimistic assumption about policy and economic performance.

"(Bush "never saw a surplus" because he was never in "primary" balance.)"

Bush actually had two primary surplus/balance years, 2002 and 2007. He had three if you give him credit for 2001 (although you could alternatively credit that to Clinton), and four if you count the $21.5 billion primary deficit in 2006 as being roughly in balance.

"Forget about what things "would suggest", and look at the evidence instead. Where is your evidence a stimulus makes us poorer next to a baseline growth trend, OVER THE LONG RUN? There is none."

There is no hard evidence stimulus does anything either. It's all based on what models 'suggest'. The output of models depends on your specifications. If you specify an inflation targeting central bank, your model is unlikely to see much of an impact from stimulus. If your model assumes certain spending patterns have multipliers, then it will show a big effect.

Here is the closest I have to evidence. Lets say you normally earn $200/day, but today you wish to spend $300 and so you borrow $100 from me. Your income today is up by $100. Tomorrow, your income is back to $200. The following day, I stop by and ask for $105 - principal and interest. You can only spend $95 that day. Your total spending over three days would have been $900 without borrowing, but it was $895 when you borrowed because you paid me $5 in order to enjoy consumption at an earlier date.

You might counter that you used the $100 to make an investment, but then we'd have to figure out if your return was higher than mine given my alternative investment options. In terms of the stimulus debate, I would add that private investment returns often beat public returns, that the stimulus was mostly consumption spending, and that the Fed has been keeping money tighter than otherwise to help offset the stimulus.

Inasmuch as extra spending helps those truly in need I find it acceptable. Just not stimulative.

Posted by: justin84 | July 8, 2010 3:54 PM | Report abuse

"$900 without borrowing, but it was $895 when you borrowed because you paid me $5 in order to enjoy consumption at an earlier date."

This should be $600 and $595, respectively.

Posted by: justin84 | July 8, 2010 4:01 PM | Report abuse

No Justin, I made the mistake that your argument was that the baseline scenario cannot be made better by cyclic booms, though cyclic recessions will make it worse.

However on the other matter you still write, "You might counter that you used the $100 to make an investment, but then we'd have to figure out if your return was higher than mine given my alternative investment options."

Over the short run, certainly. The argument of who invested better, or spending vs. tax cuts, will depend upon the current conditions.

But over the long-run, wouldn't we assume that the returns will be the same? Because the economic rents would be competed away.

Unless the investment is in education or basic R&D. Which, when the government does it, is categorized as "spending."

Posted by: Lee_A_Arnold | July 8, 2010 5:23 PM | Report abuse

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