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O.K., let’s just think about this budget thing for a while, Part I

To be sure, the U.S. government deficit is shocking; but it’s not anymore shocking than the recession through which we have all lived. Tax receipts plummeted (see the second chart from this post) and spending on cyclical social programs (like unemployment benefits) is surging. This adds up to an exponentially rising budget deficit, and thus an increasing debt burden.

The resulting hysteria leads to headlines like that from Reuters on March 11, 2010: “Fed’s Dudley: Waiting to fix fiscal problems risky”.

Be very careful when reading these articles, as the title implies that William Dudley, president of the New York Federal Reserve Bank, is advocating “fixing fiscal problems” right now – cutting spending and/or raising taxes now – while that is not the case at all. According to Reuters, Dudley says:

The issue, Dudley said, is not fiscal stimulus, which he noted had been necessary in the United States to stabilize the economy, even though it drove up the deficit. That spending is temporary, he added. The bigger long-term problem for the United States and other advanced economies is structural deficits — those likely to persist absent changes in tax and spending policies.

A link to Dudley’s speech. He does refer to structural deficits that may result from recent countercyclical policy. However, these long-term structural deficits have essentially nothing to do with the current downturn, in my view. In fact the effects of the current deficits are simply a speed bump on the road to structural indebtedness.

Just look at the CBO’s extended-baseline projection for the long-term budget published in June 2009.

This above scenario projects the spending share on social security, Medicare and Medicaid, and Other Federal Noninterest Spending through the medium and long term under current law. Notice the blip that is 2009 and 2010?

What is key to this outlook is the assumption on economic growth and productivity trends (among others, of course!). GDP is assumed to grow an average 2.2% per year. I didn’t delve into this full report and conduct a full alternative scenario test. But it is pretty clear that GDP growth of anything less than 2.2% (on average) – holding all else equal, of course – would have a deleterious impact on the outlook for government financing.

Japan provides a perfect case study of what not to do when the economy is recovering from a financial crisis: raise taxes too soon. You do that, and the probability of a “lost decade” rises quickly. You suffer a lost decade, and the outlook on the structural budget looks a lot worse than that illustrated above.

Marshall Auerback has argued time and time again that the government should run deficits until private saving adjusts so that the economy can stand on its own two feet, i.e., grow. As long as the currency floats and is fully non-convertible, the government’s debt burden will not become a solvency issue. Hence, his interview titled fighting deficit hysteria.

I would say, rather, that the deficit hysteria is appropriate, but very much misallocated intertemporally toward the short-term outlook.

Part II coming to a post near you!

This article is crossposted with News N Economics

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Topical thread: Cash, checks, plastic, and online

On the right is a poll put up by the San Francisco FED that I translated to here. I personally use cash and checks to monitor my emotional response to spending, which can become numb using all credit card purchases. Online payments work if not automatic. Then again, I don’t use a lot of checks.

Business accounts (sole proprietorships) I treat differently. Quirky behavior which works for me.

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Topical thread: Regulators could have prevented AIG collapse?

Rdan here…Our loyal opposition Reader Sammy sends along this in your face question:

Regulators could have prevented AIG collapse. Really?

Say what you want about AIG, and it is pretty much open season on them, but just prior to their collapse, AIG was:

1) The largest insurance company in the US, in the business of assessing risk.
2) One of less than 10 companies rated AAA
3) A member of the Dow 30 Industrial Average.

So you think some Insurance Examiner could have foreseen the risk that eluded all the rating agencies, and all the counterparties (including Goldman) and prevented it? As Seth and Amy would say on Saturday Night Live: “Really?”

Even though SEC regulators allowed Bernie Madoff’s ponzi scheme to continue for 20 years, even after they were tipped off?

Not even to mention that what brought AIG down was not underwriting risk, but collatoral posting covenants buried deep in the documents.

I can imagine the conversation:

Brilliant Civil Service Examiner (circa 2003): “Mr. Greenburg it looks like you have a dangerous amount of exposure in CDS, if housing prices decline, or you get downgraded, you will have to post immense amounts of collatoral. I’m going to recommend to my superiors that you to cease and desist”

Greenburg: “Hey Frank (Catalano), fire up the Cray and show the Examiner your simulations. I am sure he will be more than satisfied. If not he should direct further questions through the offices of Sens. Dodd and Schumer, or maybe Bush and Obama.”

Some bureaucrat could have sounded the alarm? “Really?!”

Reader Sammy asks.

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Numerical Illiteracy

Robert Waldmann

Jonathan Chait has a very good article on Paul Ryan in The New Republic. In it he displays striking confusion on simple arithmetic.

It’s worth keeping in mind that the current tax system in this country is only very slightly progressive. State and local taxes are regressive, federal taxes are somewhat progressive, and the net effect redistributes income, very slightly, from the rich to the not-rich:

It is true that the tax system is only very slightly progressive. It makes no sense to talk about whether the tax system redistributes income from the rich to the non-rich. The tax system redistributes income from the rich and the non-rich to the public sector. To assess redistribution from the rich to the non-rich one has to look at what the public sector does with the money. Even if one assumes that the public sector provides no valuable services (not I think Chait’s view or even, for that matter, Ryan’s) much of the money is sent right back as old age pensions, disability pensions and some more as unemployment insurance, housing vouchers, and even a tiny bit of TANF,

The standard model of redistribution used by lazy economists is a flat tax which finances an equal grant to all citizens. According to Chait, there is no redistribution since the tax code is not progressive at all. It is not very hard to calculate what the effect of the public sector on income inequality would be if pre-tax and transfer income were unaffected by taxes and transfers (this is not an interesting calculation but it isn’t very hard). Here one finds a much larger effect of the central government tax and transfer system in Europe than in the USA even though the US federal tax system is more progressive. The amount of redistribution has a lot to do with the scale of taxes and transfers and, across developed countries, very little to do with progressiveness.

Chait should check with his fan Matt Yglesias who vastly overstates the importance of this simple fact.

Speaking of whom, a commenter recently wrote that Yglesias was “mathematically illiterate.” I was puzzled and replied that I thought he was very good with numbers. I’m not going to search through threads to find the exchange and so just let me apologize here. After reading this

“three countries in Western Europe (Sweden, France, Denmark, and Austria)”

I must admit that I was wrong.

By the way, I remain wildly enthusiastic about increasing the progressivity of the US tax code. This is partly because I am partisan and increased progressivity is very popular. It is also partly because, other things equal, increased progressivity implies increased transfers from the rich to the poor. It’s just other things aren’t zero.

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Perfect Babies and C-Section Complaints

Tom aka Rusty Rustbelt

Perfect Babies and C-Section Complaints

Some issues are like spring flowers, always returning.

The “too many C-Sections” debate is recurring again, raising issues of cost and clinical judgment (some women want sections for cosmetic reasons).

Problem is, Americans expect perfect babies, and if babies are not perfect it is time to call the lawyers.

(John “lover boy” Edwards became very rich filing junk science Cerebral Palsy cases against Ob-gyns.)

The last time I did a cost study on an Ob-gyn practice, all of the contribution margin from Ob was going to malpractice premiums, most of the expenses and all of the physician incomes were derived from gyn services (as I remember the premiums were about $140,000 per physician). So why deliver babies?

Certainly there is malpractice, and it is (in my opinion) malpractice not to do a quick section on a distressed baby (as one of my doc friends said, “we were all trained in the 2 minutes C-section drill). Proper compensation for legitimate cases is important.

Ob-gyns are becoming employees are a means of shifting risk and cost to hospitals and integrated networks. Difficult cases are referred up the specialist chain, often to academic centers (often many miles from home). Medical students are avoiding OB as a specialty.

This is no way to run a health care system, and the plans moving through Congress do not address these issues.

Tom aka Rusty Rustbelt

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Geithner and EU regulation of derivatives

“Mr Geithner warns that US hedge funds, private equity groups and banks could be discriminated against if proposals to restrict the access of EU investors to funds based outside the 27-country bloc are included in the final law.” Geithner Warns of Rift Over Regulation

as declared over this:

“Germany and France on Wednesday called on the European Union to consider banning speculative trading in credit default swaps and set up a compulsory register of derivatives trading.” Call For Ban ON CDS Speculation

Once again Geithner has shown whose interests are more important. It certainly isn’t Main Street when it comes to exports/imports. God forbid, some other country begin to regulate Wall Street though!

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Extending temporary tax breaks passed

by Linda Beale
Harry Reid’s office announced that the final vote on the “American Workers, State, and Business Relief Act of 2010 (HR 4213), which will extend $31 billion in temporary tax breaks will take place on Wednesday Mar 10 (at the request of the GOP). The Senators voted today to cut off debate (66-34) and let the vote take place. (Rdan…the bill passed 62-35)

The JCT’s “estimated Revenue Effects of the Revenue Provisions Contained in the President’s Fiscal Year 2011 Budget (JCX-7-10) is up on the committee’s website, with some pretty amazing figures that should convince every single blue dog Democrat and “fiscally conservative” Republican (if there really are any of that nature) that the best thing to do for the country would be to let the Bush-era tax cuts slide into permanent oblivion as they are slated to do under current law. Extending those tax cuts for ten years will cost a whopping $2.5 trillion. Those cuts include:

$238 billion to maintain very low capital gains and divdiends rates (mostly of value to wealthy who receive most of the capital income);

$25.6 billion to maintain the increased “expensing” under section 179 (purported to stimulate growth, but amounting to a huge business tax cut that does not make sense under the income tax and does nothing to cause more investment, since businesses will just get the expensing cut for equipment they’d buy anyway)
more than $1.7 trillion to maintain the lower individual income tax brackets

$359 billion for extension of the child tax credit, refundability and AMT rules
$359 billion for so-called “marriage penalty relief”
$18.4 billion for education incentives

$253 billion for extate tax revisions (extending the 2009 law that permits estates of $10 million to be passed tax free and taxes even multibillionaire estates at only 35% on the amount above the exempted amount)
Everything else in the bill is almost small-change by comparison. Indexing the AMT, though, is more than half a trillion–and again, that goes primarily to the upper crust (though not the very wealthiest, who still pay regular tax instead of AMT)–those with $200-500 thousand in income a year. Hard to justify paying through the nose to give tax breaks to the upper crust, while the same people that pushed these 2001-2003 tax cuts through continue to say that absolutely necessary health care reform is “too costly.” because of the creation of deficits. That’s hypocrisy, folks.


The tax measures in the purported “temporary recovery measures” cost just less than $100 billion and include many provisions that are not going to do anything to stimulate the economy, in all likelihood, such as more expensing provisions for small businesses, more bonus depreciation for certain properties, and more tax credits for certain types of investments.

Additional “tax cuts” touted in the budget are similarly hard to justify since they increase the “consumption tax” features in the income tax–expanding the “saver’s credit” is a too costly $27 billion over ten years; and expanding the “american opportunity tax credit” is another $58 billion.

The “tax cuts for businesses” include two items that should hit the trash heap–hopefully Sandy Levin is going to toss these out:

almost $8 billion for eliminating capital gains taxation on investment in small business stock (this will be just another tax break to equity funds and all those hugely wealthy investors, not a break for little businesses or little guys)
$70.5 billion for making the research & experimentation credit permanent- (this is another item that doesn’t belong in an income tax–letting companies get a credit for R&D means that something that is just a normal cost of business is treated as reducing the tax owed on a dollar for dollar basis. That’s a nutty policy to put in place, but it is something that the corporations have lobbied for year after year after year, and Congress keeps giving it to them)
The biggest revenue raiser is capping itemized deductions, which would garner almost $300 billion over 10 years, but the Dems in Congress have practically rolled over on that one already.

[hat tip to taxprof]

Rdan here: Final vote passed the bill.

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The Chicago School–why does anybody still listen to it

by Linda Beale

The Chicago School–why does anybody still listen to it?
I have frequently written here about the problems of “freshwater” economics–the school personified by Milt Friedman and the extremist “free market” ideology that views government as the enemy, the “markets” as always right, and any public role in economic development as “socialism”. As I’ve noted, this ideology misses many points about the role of government in creating a space where markets can function as they should and where individuals can have maximal personal liberty while pursuing better lives and respecting a societal decision that valuing each individual means allocating society’s resources in ways that support, rather than brutalize, those at the bottom.

The Nieman Foundation, connected with Harvard’s journalism school, has an interesting watchdog website that includes a number of controversial articles raising questions about the way today’s media tend to accept without questioning the “received wisdom” of the past (including the ideological views of the “free market” right). As part of a series on the economic collapse, the site includes an article by Henry Banta (a partner at Lobel, Novins & Lamont) noting the consensus developing among a small but diverse group of economists, professors, and those interested in how the economy works about the failure of efficient market theory. That’s a post worth reading, since it focuses on this issue. (My posts, perhaps to readers’ chagrin, tend to throw these criticisms in as asides in the course of analyzing one position or another being put forrward unthinkingly by proponents of that theory.). Enjoy. Henry Banta, Republicans are locked in a passionate embrace with a corpse and won’t let go, Nieman Watchdog, Feb. 11, 2010.

crossposted with ataxingmatter

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