Fiscal Cliff Discussion

[Jake]

http://bonddad.blogspot.com/2013/01/we-now...ystem-that.html

 

"We now permanently have a tax system that will not raise enough revenue to cover our expenditures"

 

- by New Deal democrat

 

This is worth repeating. Andrew Samwick writes, seconded by Mark Thoma:

So Who Won the Fiscal Cliff Fight?: Obviously, former President George W. Bush. Despite how much he has been vilified in the years since his departure from office, the Congress and the President yesterday decided to ratify almost all of his tax policy agenda. As Joe Wiesenthal of Business Insider noted, "The difference between the Obama Tax Cuts and the Bush Tax Cuts? Obama's are permanent*." Joe also pointed out, quite astutely, that even if top marginal tax rates are not lower than in the Clinton years, taxpayers with the highest incomes are still paying lower taxes because all the tax rates below the top are lower. Who's laughing now?

 

Not me. In over eight years of blogging, you won't find a single word of praise for the Bush-Obama tax cuts. As a matter of revenue, we now permanently have a tax system that will not raise enough revenue to cover our expenditures.

 

 

And for that, we got a 60 day reprieve on cuts to Social Security and Medicare.

[Texsox]

The only people hurt by this are not government, though we will all feel much pain (for no reason). Who do you think you are sticking it to?

Continuing to borrow limitless amunts of money is actually doing the sticking. But it only sticks people who actually pay taxes.

It's about not sticking it to future generations. It's about not borrowing money to give us s***. The economy is based on borrowed money, that doesn't last forever. But most of America starts crying like petulant children at the supermarket checkout.

[Jake]

Continuing to borrow limitless amunts of money is actually doing the sticking. But it only sticks people who actually pay taxes.

It's about not sticking it to future generations. It's about not borrowing money to give us s***. The economy is based on borrowed money, that doesn't last forever. But most of America starts crying like petulant children at the supermarket checkout.

 

Actions that seem to fix the budget via simple addition and subtraction actually make it harder. Reductions in spending and even increases in taxes will harm growth so you must be careful how much you do them. If you want to close the gap, you increase employment. If we recover the economy, we will pay off that debt. If we get desperate about fixing the deficit now, we'll have a long term problem with our economy and thus a continuing problem with meeting our budget goals. The credit card analogies don't work on this scale.

[southsider2k5]

Actions that seem to fix the budget via simple addition and subtraction actually make it harder. Reductions in spending and even increases in taxes will harm growth so you must be careful how much you do them. If you want to close the gap, you increase employment. If we recover the economy, we will pay off that debt. If we get desperate about fixing the deficit now, we'll have a long term problem with our economy and thus a continuing problem with meeting our budget goals. The credit card analogies don't work on this scale.

 

We have a long term problem already. As we have seen with this recession, the economy is now utterly dependent on the government's spending. Some deficit is fine, the problem is the whole system is now dependent on it. The other problem that we have seen is unless you have straight line growth, you will have times when the debt and deficit take up way larger pieces of the economy, because of the crowding out of the public sector by government. Why do you think each successive recession has become harder and harder to get out of, with a flatter recovery, despite having more money put into it?

[Balta1701]

We have a long term problem already. As we have seen with this recession, the economy is now utterly dependent on the government's spending. Some deficit is fine, the problem is the whole system is now dependent on it. The other problem that we have seen is unless you have straight line growth, you will have times when the debt and deficit take up way larger pieces of the economy, because of the crowding out of the public sector by government. Why do you think each successive recession has become harder and harder to get out of, with a flatter recovery, despite having more money put into it?

So what you're saying is, it's a terrible idea to continue cutting taxes and running deficits in years like 2003-2007 when there is a growing economy? Agreed.

 

On the 2nd question...why it's been harder to get out of each recession...a number of reasons, just off the top of my head. Deregulation of the financial industry has made the shocks of the past 30 years much deeper than the previous 40 years. The Federal Reserve has prioritized keeping inflation low over job growth since the 1980's, leading to an era where the fed has less "ammunition" to fight against contraction. The "Safety-net", which could also be accurately described as automatic stabilizers (spending that kicks in or that people can rely on when the private sector contracts) has been increasingly dismantled, exposing more people directly to the business cycle in a way that pushes more people over the edge when downturns happen. Increasing income inequality has left the lower and middle classes with less money to respond to low-interest rate environments by making purchases, while the upper incomes have been able to insulate themselves from similar shocks using government protections.

[southsider2k5]

So what you're saying is, it's a terrible idea to continue cutting taxes and running deficits in years like 2003-2007 when there is a growing economy? Agreed.

 

On the 2nd question...why it's been harder to get out of each recession...a number of reasons, just off the top of my head. Deregulation of the financial industry has made the shocks of the past 30 years much deeper than the previous 40 years. The Federal Reserve has prioritized keeping inflation low over job growth since the 1980's, leading to an era where the fed has less "ammunition" to fight against contraction. The "Safety-net", which could also be accurately described as automatic stabilizers (spending that kicks in or that people can rely on when the private sector contracts) has been increasingly dismantled, exposing more people directly to the business cycle in a way that pushes more people over the edge when downturns happen. Increasing income inequality has left the lower and middle classes with less money to respond to low-interest rate environments by making purchases, while the upper incomes have been able to insulate themselves from similar shocks using government protections.

 

This recession has seen probably at least $5 trillion thrown at it, and we still haven't really recovered by any historical standard. The spending has been ineffective because of crowding out by all of the other government spending. It is diminishing marginal return at its finest. Safety net spending isn't safety net anymore. It is support the economy spending because government has curbstomped the private sector's ability to survive without being gigantic and utilizing economies of scale for survival.

 

[Balta1701]

This recession has seen probably at least $5 trillion thrown at it, and we still haven't really recovered by any historical standard. The spending has been ineffective because of crowding out by all of the other government spending. It is diminishing marginal return at its finest. Safety net spending isn't safety net anymore. It is support the economy spending because government has curbstomped the private sector's ability to survive without being gigantic and utilizing economies of scale for survival.

The recession has had ~$4 trillion in federal spending thrown at it, offset by >$1 trillion in state and local level cutbacks...but that's compared to a housing bust that blew up $10 trillion in wealth.

[southsider2k5]

The recession has had ~$4 trillion in federal spending thrown at it, offset by >$1 trillion in state and local level cutbacks...but that's compared to a housing bust that blew up $10 trillion in wealth.

 

You are leaving out the Federal Reserve's ledger.

[StrangeSox]

so...do you have any evidence of the government crowding out the private sector recently?

[Balta1701]

You are leaving out the Federal Reserve's ledger.

Which doesn't translate the same way as $1 of federal spending. Federal government goes out and spends $1, $1 is spent. Federal Reserve buys $1 in mortgage backed securities, it alters the balance sheet for mortgage backed securities, changing the value of that asset, but many steps are involved before that could filter down to money being spent somewhere.

 

Also, since you mentioned that government spending was "Crowding out" other spending, it's worth noting again the complete lack of any evidence for this, given that the private sector will literally pay the government interest in order to borrow from it right now, for a period of 10 years.

 

Your response of course will be "Yes, but QE2!", which could have played a role...but the complete lack of any spike in bond yields when the Federal Reserve stopped buying up bonds is pretty strong evidence that the private sector is ridiculously desperate for "Safe" assets and has been so since 2008 (when all their AAA assets they had been counting on were revealed to be garbage).

[southsider2k5]

Which doesn't translate the same way as $1 of federal spending. Federal government goes out and spends $1, $1 is spent. Federal Reserve buys $1 in mortgage backed securities, it alters the balance sheet for mortgage backed securities, changing the value of that asset, but many steps are involved before that could filter down to money being spent somewhere.

 

Also, since you mentioned that government spending was "Crowding out" other spending, it's worth noting again the complete lack of any evidence for this, given that the private sector will literally pay the government interest in order to borrow from it right now, for a period of 10 years.

 

Your response of course will be "Yes, but QE2!", which could have played a role...but the complete lack of any spike in bond yields when the Federal Reserve stopped buying up bonds is pretty strong evidence that the private sector is ridiculously desperate for "Safe" assets and has been so since 2008 (when all their AAA assets they had been counting on were revealed to be garbage).

 

The only reason interest rates are where they are is because the Federal Reserve has purchased, and is sitting on, something like $3 trillion in bonds. There is literally no other choice to go to. The Fed also hasn't quit buying bonds. They are still spending $40 billion a month in bond buys, indefinitely.

[StrangeSox]

yeah, fiscal and monetary policy aren't the same thing. Even if the government was only 5% of GDP prior to the recession, you'd still need counter-cyclical fiscal policy in response to a financial recession.

[Balta1701]

The only reason interest rates are where they are is because the Federal Reserve has purchased, and is sitting on, something like $3 trillion in bonds. There is literally no other choice to go to. The Fed also hasn't quit buying bonds. They are still spending $40 billion a month in bond buys, indefinitely.

But when they stopped buying bonds...when QE2 ended...there was no spike in bond yields. The federal reserve sat there for a year doing nothing other than holding what it already had...the government printed another trillion dollars in bonds...and the yields continued to drop (and, in fact, the stagnant recovery stalled farther). This is a pretty excellent test of your theory, and the exact opposite of what you'd predict happened.

 

This is what is actually normal during a crisis, a flight to a safe asset. This one, IMO it's more than likely worse, because 2008 was defined by the evaporation of so-called AAA safe assets. With good reason, no investor worth their salt would trust anything created by the financial industry as an investment option to be anything but fraud. So we actually have a double-effect...the normal crisis level flight to safety, combined with evaporation of the safety of most of the so-called safe assets. We're no where near satiating that demand.

[southsider2k5]

And yet despite all of that, we STILL haven't had a meaningful recovery after going on five years now. The Fed and the Fed government have used everything at their disposal, and here we still sit, the private sector in shambles. Diminishing marginal return.

[Balta1701]

And yet despite all of that, we STILL haven't had a meaningful recovery after going on five years now. The Fed and the Fed government have used everything at their disposal, and here we still sit, the private sector in shambles. Diminishing marginal return.

Just to say again...not even close. They used everything there was political will, on both sides, to do.

[StrangeSox]

They haven't used everything at their disposal. They've had a relatively weak fiscal policy. We've also been dealing with a global recession and various responses to it (mostly bad, see Europe) that affect our economy as well.

[Balta1701]

They haven't used everything at their disposal. They've had a relatively weak fiscal policy. We've also been dealing with a global recession and various responses to it (mostly bad, see Europe) that affect our economy as well.

They've had relatively weak monetary policy also, compared to the depths of the problem.

[StrangeSox]

The big issues in macroeconomics: the fiscal multiplier

 

The biggest theoretical issue in macroeconomics is “what causes unemployment”. As discussed in the last post, the classical answer, that unemployment is caused by problems in labor markets, is obviously wrong as an explanation of the simultaneous emergence of sustained high unemployment in many different countries. Unemployment is a macroeconomic problem.

 

The central macroeconomic policy issue, then, is “what, if anything, can macroeconomic policy do to move the economy back to full employment”. If you accept that, under current conditions of zero interest rates, there’s not much positive that can be done with monetary policy[1], and you stay within the bounds of mainstream policy debate, this question can be restated as “how effective is expansionary fiscal policy” or, in Keynesian terms, “how large is the fiscal multiplier in a depression”.

 

 

To restate this in more neutral terms, if the government spends more, say by employing and equipping more firefighters, what happens in the rest of the economy? The answer given by classical economics is that the newly-employed firefighters must be drawn from elsewhere in the economy, presumably in the private sector. Similarly, the production of extra firetrucks means less vehicles can be produced for other purposes. Although the exact way in which resources are reallocated can’t easily be predicted, the classical model gives the clear answer that the overall level of employment and economic activity won’t change[2]

 

Keynes gave a different answer. The classical solution, he said, was applicable in a situation of full employment, but that was a special case. In general, the economy might be in an equilibrium with high unemployment, with plenty of idle workers who could be hired as firefighters, and factories to produce their equipment. Not only that, but the firefighters would spend at least some of their increased incomes, leading to further growth in demand. So, aggregate employment and production would expand by more than the amount of the initial increase, leading to a ‘multiplier’ effect.

 

More precisely, the fiscal multiplier is the ratio of the final change in aggregate output (and therefore in employment) to the initial change in government expenditure. The traditional “Old Keynesian” view (implied by the multiplier terminology) is that, provided there are plenty of unemployed resources, the multiplier is greater than 1 (among other things the value depends on the kind of expenditure – low income households are more responsive to income changes, so expenditure that benefits them will have a higher multiplier). That view seems consistent with the evidence of, for example, Romer and Romer and, more recently, the IMF World Economic Outlook (PDF), which concluded

 

Research reported in previous issues of the WEO finds that fiscal multipliers have been close to 1 in a world in which many countries adjust together; the analysis here suggests that multipliers may recently have been larger than 1

 

The classical position may be restated as saying that the fiscal multiplier is zero. The core of New Classical economics is the reassertion of this claim. If workers are unemployed it was either because they are unwilling to work at the going wage or because some artificial barrier (unions or minimum wages) stops wages from adjusting to their equilibrium level. To the extent that Keynesian policies worked, New Classical economists like Lucas argued, it was by generating unanticipated inflation and tricking workers into accepting wages that were higher in nominal terms but lower in real terms.

 

Before the current crisis, New Keynesians conceded a fair bit of ground to the classical view, but argued for a positive multiplier, though not necessarily greater than 1. One way of putting this is that public expenditure partially “crowds out” private spending. But most NK advocates thought fiscal policy unnecessary, since monetary policy had the same effects and was easier to manage.

 

I criticized the New Classical view last time, but the dominant idea in European and many US policy circles is even worse. It’s, the theory of expansionary austerity put forward by Alesina and various co-authors that the fiscal multiplier is substantial and negative. That is, cutting public expenditure will increase output.

 

This claim has no real theoretical basis and almost no empirical support, being based largely on anecdotal evidence and on a few studies that have not stood up to criticism. I took it apart in the paperback edition of Zombie Economics – the relevant section was published here

[mr_genius]

it's gonna be interesting to see what happens when people see that they have a tax increase (the 2% tax increase thingy). if the GOP had any instincts (which they don't, they are total failures) they would exploit this increase and blame Obama and the Democrats.

[mr_genius]

Obama plans on creating a trillion dollar coin to pay off national debt

 

http://abcnews.go.com/blogs/politics/2013/...ing-end-around/

 

 

[Jake]

Obama plans on creating a trillion dollar coin to pay off national debt

 

http://abcnews.go.com/blogs/politics/2013/...ing-end-around/

 

"Obama plans" being an interesting way to put it. Nonetheless, I think it's brilliant. If the Republicans want to hold us hostage on something they should have no say in anyway, then Obama should have an equally ridiculous yet absurdly legal trump card. If they wanted to make changes to the budget, they should have negotiated over the budget. Obama was going to give them hefty spending cuts that they're now going to have to make asses of themselves to fight for.

[mr_genius]

If they wanted to make changes to the budget, they should have negotiated over the budget.

 

That is what the debt ceiling fight should be. But I'm sure the clueless GOP will cave in and increase spending 10 fold.

[Y2HH]

That is what the debt ceiling fight should be. But I'm sure the clueless GOP will cave in and increase spending 10 fold.

 

The problem is the debt ceiling isn't the spending ceiling. People often confuse the two.

 

The debt ceiling is allowing the government to borrow the money they *ALREADY* spent. If they don't, the default on those loans...and the people they borrowed from get f***ed because now they'll never get the full amount borrowed.

 

If they were talking about setting a spending limit, it would/could actually do something positive. But the "debt ceiling" as it is now, does no such thing.

[bmags]

The problem is the debt ceiling isn't the spending ceiling. People often confuse the two.

 

The debt ceiling is allowing the government to borrow the money they *ALREADY* spent. If they don't, the default on those loans...and the people they borrowed from get f***ed because now they'll never get the full amount borrowed.

 

If they were talking about setting a spending limit, it would/could actually do something positive. But the "debt ceiling" as it is now, does no such thing.

 

I disagree on the spending limit but three cheers for the post nonetheless!

[mr_genius]

The problem is the debt ceiling isn't the spending ceiling. People often confuse the two.

 

The debt ceiling is allowing the government to borrow the money they *ALREADY* spent. If they don't, the default on those loans...and the people they borrowed from get f***ed because now they'll never get the full amount borrowed.

 

If they were talking about setting a spending limit, it would/could actually do something positive. But the "debt ceiling" as it is now, does no such thing.

 

usually, the GOP puts on a dog and pony show, demanding spending cuts first, then vote for a debt ceiling raise. never works out that way, they always end up increasing spending. they put up a fake fight to appease supposed conservatives.

 

a lower debt ceiling does actually effect spending directly in a number of ways. obviously if you don't pay back your loans, no one is going to give you future loans, and decreases future debt. so if the debt ceiling isn't raised you default on loans, or cut spending, or just start printing money. an unlimited debt ceiling, which we currently have as a massive increase is always voted for, encourages reckless spending. because it's all free and we are all entitled to free stuff.