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Austerity again

By       Message Seymour Patterson     Permalink
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(Article changed on February 8, 2013 at 08:43)

We know the apocalypse is near when John H. Makin of the American Enterprise Institute, leaning in a conservative direction, and liberal leaning Paul Krugman are both saying essentially the same thing about economic growth and deficits. Krugman's views have been ubiquitous and a source of rage from his detractors--who accused him of being a polemist not an economist. He believes the stimulus worked and should have been larger. He also believes we need to focus on economic growth rather than on deficits. Thus, it is surprising to hear Mr. Makin, sounding a bit Krugmaneque, say: (see AEI)

Quote

If fiscal austerity is applied too rapidly, US growth will drop and the debt-to-GDP ratio will rise, boosting the nation's debt burden. If the Fed tries to stem the rise with too much money-printing, inflation could rise and drive up interest rates, exacerbating the US debt burden.

Congress and the president need to avoid excessive austerity with respect to changes in fiscal policy this year. Over the past four years, on average, the fiscal boost applied to the American economy has been worth about 3 percent of GDP. This year, with tax increases and sequestration, fiscal drag will be about 1.5 percent of GDP.

End of Quote

The case I have been making all along simply is that the intense focus on deficits is misguided; stimulus works, sequestration, and higher taxes can take a bite out of GDP growth. Last year, I made much the same argument. (see: Patterson 1, 2, and 3) Austerity induced by implementing a policy of spending cuts to manage deficits only produces more deficits. If the budget were balanced, and something untoward happened that caused an economic contraction, government revenues would decline, thus creating a deficit.  Now to fix it, government spending would have to be cut (or taxes raised).  But cuts in government spending mean laying government workers off, an act that reduces these workers' ability to buy goods and services. When that happens private businesses begin to see their sales fall below expectations and inventories rise.  As the economy spirals downward, more deficits appear, and more cuts in spending are necessitated by any balanced-budget mandate.

Again, the debt burden is just the ratio of the debt to GDP. It is true at least arithmetically that deficits add to the burden of the debt, and economic growth reduces that burden. And economic growth is all the more powerful as a remedy for deficits because it impacts the numerator as well as the denominator of the ratio. If there is economic growth, government revenues will rise (even if the tax rates remain the same) and government spending such as unemployment compensation will decline because more people will find jobs.

Let's say we exist in a euphoric utopia of balanced budget largely as a result of Congress's response to our concerning deficit. The inferential argument here is that if you fix the deficit you fix the economy. This assumes that the bloated government spending is the problem. It also assumes, despite evidence to the contrary, that the stimulus failed. And never mind obstructions from state governors who refused infrastructure moneys and furloughed teachers, police officers, and firefighters. That is, state governors were increasing unemployment while the Obama administration was attempting to reduce it. The governors' actions were as counterintuitive as people saying Obama lied about Gitmo because he campaigned to close it and did not. But Congress refused to provide funds to carry out the shutting down of Gitmo.  I took the liberty of extensively quoting the Erin B. Corcoran paper titled Obama's Failed Attempt to Close Gitmo: Why Executive Orders Can't Bring About Systemic Change, which states:

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Barack Obama wasted no time once sworn into office executing his central campaign promises.  On January 22, 2009, two days after becoming the forty-fourth President of the United States, Obama signed three executive orders in the presence of sixteen retired admirals and generals in the Oval Office. These orders (1) suspended military commissions; (2) set a timetable and created procedures to shut down the Guantanamo Bay detention facility; (3) revoked all existing executive orders that were inconsistent with U.S. Geneva Convention treaty obligations concerning interrogation of detained individuals; and (4) created a task force to review U.S. detention-policy options and U.S. interrogation techniques. With the public backing its shutdown, prominent Republicans and Democrats alike calling for its closure, and the President's executive orders creating the framework and timeline for implementation, the end of U.S. detentions at Guantanamo Bay seemed a fait accompli.  Yet, in 2011, Guantanamo Bay continues to operate and currently houses approximately 180 post-9/11 detainees who have not been tried for any crimes.

The world watched in January 2009 as Obama delivered his promise to close Guantanamo Bay.  However, by May 20, 2009, the U.S. Senate, controlled by Democrats, voted ninety to six to prohibit the use of federal funds "to transfer, release, or incarcerate detainees detained at Guantanamo Bay, Cuba, to or within the United States."

More recently, Congress, in approving the 2010 Defense Authorization Bill, banned the transfer of detainees held at Guantanamo Bay to the United States, even for criminal prosecution, and required that the Secretary of Defense sign off on the transfer of any detainee to a third country. Despite overwhelming support in the abstract for its closure, congressional pushback on implementation has stalled efforts to bring the U.S. practice of detaining individuals at Guantanamo Bay to an end.  In particular, the U.S. Senate balked at providing the President the necessary funds to begin phasing out the Guantanamo Bay detention facility.

What caused this disconnect between the newly-elected President and his Democrat-controlled Congress?  What did the Obama Administration fail to calculate or understand about the legislature that resulted in the President failing to deliver on a key campaign promise?

End of quote

Another example of this counterintuitive penchant of our Congress is their subtle effort to privatize the U.S. Postal Service. Congress tells the U.S. Postal Service to set aside $75 billion for retirement, and then says the postal service is losing money. Here is a quote from Chuck Zlatkin's Destroying the Postal Service in Order to Save it" gives a fuller description of this sleight-of-hand by Congress:

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Seymour Patterson received a Ph.D. in economics from the University of Oklahoma in 1980. He has taught courses and done research in international economics and economic development. He has been the recipient of two Fulbright awards--the first in (more...)
 

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