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The Media’s Role in Driving the "Fiscal Cliff" Imagery

by Linda Beale

The Media’s Role in Driving the “Fiscal Cliff” Imagery

The mainstream media has been fed a steady diet of releases from interested parties (like right-leaning propaganda tanks) about the need to adopt austerity measures, often cast as needing to save the country from out-of-control spending and unprecedented deficits and debt.

At the same time, the mainstream media has generally given up investigative journalism to engage in sports-like “he said-she said” journalism:  it treats most fiscal issues as a contest between left-leaning and right-leaning groups to be described by each side’s post position–i.e., as a merit-based race between equally valid positions.  Without the investigative wherewithal for in-depth research, there’s much less information about whether and how the facts may support one side and not the other.

We see it on climate change, where a scientific consensus is treated as just another opinion contrasted with the wishful opinions of anti-environmental corporatists.  We see it on evolution, where belief-based creationism is taught in schools alongside fact-supported scientific theory, with the two sides reported in the news as though they represent equally valid educational positions.  

It shouldn’t be surprising, therefore, that this approach surfaces in spades when it comes to the so-called “fiscal cliff”.

One is hard pressed to find articles that give credence to the position of progressives on Social Security (it is not bankrupt), Medicare (we can solve the long-term problem of financing of reasonable universal health care without cutting benefits by learning from the facts and experiences about controlling medical care costs through single-payer systems like those adopted in every other advanced nation), or even taxes.  The possibility of using the end-of-year changes as a fresh-start, “sweep the house clean” foundation for immediate action early in the new term is often ignored and, if mentioned, is generally given short shrift and inadequate explanation.

It’s easy, though, to find forecasts of return to recession outcomes if the sequester and end of the Bush tax cuts are allowed to take place as currently enacted.
Take, for example, the rhetoric of Mark Johnson in a report, A Fiscal Cliff primer (Nov. 18, 2012, updated Nov. 19).
If Congress cannot come up with an agreement on the Simpson-Bowles ratification, and then cannot come up [with] enough compromises to pass a plan of their own, and the President refuses to extend the current January 1st deadline, it’s over the cliff for Uncle Sam.
And, straight into the tax increases, unemployment jump, deep federal cuts and probable recession; A rough landing for the country and a scenario neither side wants.

The article adds to the crisis drumroll by quoting political scientist David Adler.

“And all the progress that Idaho families made in getting out of the recession will have gone by the wayside if in fact America’s politicians in Washington are not able to put our fiscal house in order.” Id.

In a similar vein, Jonathan Weisman in the New York Times reports today that “negotiators” have agreed on the parameters for a deal in which they will agree on fixed amounts of revenue to be raised (without tax rates increasing) and fixed amounts of cuts to social programs (and other federal programs like farm subsidies).  Jonathan Weisman, Seeking Ways to Raise Taxes but Leave Tax Rate as is: Negotiators Float Ideas to Appease Both Parties, New York Times (Nov. 23, 2012), at A12.

The article contains a good bit of information (or speculation, it isn’t completely clear) about what “negotiators” are considering in order to “pacify” the Republicans without permitting tax rate increases.  There’s no specific source attribution other than to “”aides involved in the negotiations” and a “Republican aide involved in the current talks.”  Id.  Predictably, it also includes a description of the slated legislative changes as a “crisis” when the “‘fiscal cliff’ would squeeze hundreds of billions of dollars out of the fragile economy next year and, many economists say, send the country back into recession”.  Id.

There’s not a single hint that it may not really be a “cliff”.  That it merely cuts back INCREASES in military spending.  That the sequester, with its cuts to the military, leaves the government with more options for funding NEEDED stimulus spending.  That Congress has all the power it needs to undo any truly harmful components of the sequester.  That Congress can instead consider targeted cuts to lower-income taxpayers to prevent a renewal downward recession trend.  That Congress can instead target spending cuts (and spending) on stimulation of the economy.  That Congress, in other words, has it in its power to help lower-income taxpayers pay for needed consumption and thus to create tax cuts and controlled spending cuts to benefit the lower and lower-middle income classes whose consumption is most needed to drive economic growth.

A little better is Evan Soltas, A Gentler Slope for the ‘Fiscal Cliff’, (Nov. 19, 2012), in which he admits the siren-call of the term to journalists.

The vivid imagery and false urgency of the [fiscal cliff] term transformed budget arcana into a national Wile E. Coyote moment. The words lent themselves to media overexposure and political opportunism. Despite efforts by Chris Hayes, Ezra Klein and Suzy Khimm to rebrand it the “fiscal curb” or “austerity crisis” — either of which would be more consistent with reality — Bernanke’s original phrasing has held fast.  Id.
Soltas at least explores the benefit of avoiding drastic austerity measures and even considering an “alternate” path of increasing the tax take beyond the “historic” measures of 18-19% of GDP.  Remember, we are currently at all-time lows in the perecentage of GDP taken in federal taxes, due especially to the enormously preferential rates to the super-elite through taxation of capital gains, dividends and private equity compensation (that is, “carried interest”) at less than half the top rate on ordinary compensation.

A reasonable solution might be a combination of spending cuts and revenue increases which stabilizes both at 18 or 19 percent of gross domestic product. That would be in line with their 50-year historical average. Increases or decreases beyond this level demand larger arguments about the proper size and role of government.

Alternatively, one could contend that demographic shifts — namely, the growing elderly fraction of the population — or rising health care costs justify greater public resources without any moral claims about government’s proper size. There is merit to this argument, but it neglects the revenue side of the historical consensus on the taxes paid to the federal government.
The relevance of any “historical consensus” on the percent of GDP that should be paid to the federal government, however, is questionable.  The times are extraordinarily different, with the years of low tax intake from the Reagan tax cuts through the Bush tax cuts, coupled with the unprecedented problem of the Bush preemptive wars being fought without the historical use of wartime increases in tax cuts (especially on the rich) to pay for them.
Maybe one of the better articles is a pre-election discussion at on the “Fiscal Cliffhanger“, Sept. 26, 2012.  Here at least there is a good graphic demonstrating just how significant the Bush-era tax cuts are in our deficit problem ($221 billion) and how little the cut to support for Medicare payments to providers is ($11 billion).  Perhaps this kind of graphic can get the upper-middle class Americans to consider their fair-share obligation. (That means couples, like most professionals such as myself, who make more than $100,000 a year but less than the $250,000 or more a year that Obama has taken as his targeted income level for reintroducting pre-Bush era taxes.)  Further, the article acknowledges that gridlock in the lame duck is quite possible, but goes on to note that there will likely be a resolution–with compromise on both sides–early in 2013.
Many progressives–in which group I include myself– do think that a clean sweep start to the new session could allow Congress to act more reasonably on our long-term fiscal needs without compromising measures needed to continue moving us out of the Bush recession. 
Once the Bush tax cuts are gone and the sequester starting to take effect, Congress could  enact piecemeal legislation.  It could pass new, better targeted tax cuts for the lower-middle and lower income distribution.  Hopefully Obama, now in office and not needing to protect his electoral future, will recognize the reasonableness of allowing some tax increases to take place in four-or five- years for those couples in the $100,000 to $250,000 taxable income set. 
Once the sequester is starting to roll in, Congress could move to reinstate public pension support.  It could consider long-term support for Medicare through gradual adoption of a single-payer, Medicare-for-all system that meets the real needs of the future rather than using an artificially created fiscal crisis to destroy the New Deal programs.  It could accept the sequester’s limited spending increases for the military.  It could even finally act to reduce the tax-and-spending subsidies for Big Banks (get rid of the active financing exception to Subpart F), Big Pharmacy and Big IT (legislate new international tax rules that undo the tax evasion that current  “affiliated sales” of intellectual property permits while reining in the ability of MNEs to locate their profits in offshore tax havens with sophisticated tax planning like the “Dutch sandwich” techniques), and Big Oil and Big Agribusiness (outright subsidies built into well-lobbied tax and spending provisions).

More on the Threat to Social Security and Medicare from the so-called "Fiscal Cliff"

by Linda Beale

More on the Threat to Social Security and Medicare from the so-called “Fiscal Cliff”

In several posts recently I have discussed the harmful demands the right is engaging in related to the so-called “fiscal cliff” created by the original Bush tax cuts (set to sunset en masse), the artificial debt ceiling (used by the GOP to exact promises of spending cuts during a recession along with extension of unneeded tax cuts for the rich), and the ill-conceived notion that the U.S. military should continue to be funded at dangerously high levels that (i) ensure that the military-industrial complex will find a war or quasi-war in which to engage their newest toys while (ii) sucking resources from public infrastructure projects and education that are vitally needed to sustain our economy.  See, e.g., The GOP’s extortion demands: cut Social Security or we’ll shoot;
If the Dems got backbone;  
Is it a fiscal cliff or merely a bump in the road;  
We face an ‘austerity crisis’ not a ‘fiscal cliff.

A. The Explanation.

At least the national media and a slew of bloggers are beginning to provide some background information to ordinary Americans on just what is driving the national discussion of “fiscal cliffs” and “austerity” demands.  See, e.g., Richard Rubin & Heidi Przybyla, Tax Pledges Confound Math as Obama Seeks Deal with Republicans, (Nov. 16, 2012) (noting that “The $607 billion fiscal cliff is the combination of tax increases and spending cuts that will take effect in January if Congress doesn’t act” and characterizing the positions of the parties as follows: “Republicans want to extend expiring tax cuts for all income levels and are demanding an overhaul in 2013 of entitlement programs and the tax code” while “Obama wants $1.6 trillion in higher taxes for top earners over the next decade, achieved through a combination of limits on breaks and higher tax rates on ordinary income, capital gains, dividends and estates”); Jackie Calmes, Demystifying the Fiscal Impasse that is Vexing Washington, New York Times (Nov. 16, 2012), at A19 (the online article is dated Nov. 15).

[A] slew of tax cuts — $400 billion for 2013 — expire on Dec. 31: All of the Bush-era rate reductions; smaller tax cuts that periodically expire for businesses and individuals; and the 2-percentage-point cut in payroll taxes that Mr. Obama pushed in 2010….  Also, 28 million taxpayers — about one in five, all middle- to upper-income — would have to pay the alternative minimum tax in 2012…. That is because Congress has failed to pass an inflation adjustment….


An emergency unemployment-compensation program is expiring, which would save $26 billion but end payments to millions of Americans who remain jobless and have exhausted state tax benefits.
Medicare payments to doctors would be reduced 27 percent, or $11 billion, because this year Congress has not passed the usual so-called ‘doc fix’ to block the cuts….

The biggest cut would be $65 billion, enacted across the board for most federal programs over the last nine months of fiscal year 2013, from January through September.  This cut, known as the sequester, was mandated by an August 2011 budget deal between [President] Obama and Congress that ended [the GOP] standoff over raising the nation’s debt limit.   Demystifying the Fiscal Impasse that is Vexing Washington
It is surely accurate that our still-weak economy would do better if we do not hit it too hard with decreases in government spending–especially decreases to government spending that supports the most vulnerable amongst us who need unemployment support in order to provide the basic necessities.  Similarly, it is surely true that some of the Bush tax cuts and the Obama payroll tax reduction are still vitally important to those in the lower 60% or so of the income distribution because of the slow growth in the economy.  We will want to find some resolution to the situation that accommodates the need to avoid a harmful austerity approach.
So the Times’ explanation of the components of the so-called “fiscal cliff” is okay.  And it is reasonable in noting that the situation is currently “vexing” to Washington.  Similarly, the Bloomberg article succinctly characterizes the clear poles of the Democratic and Republican positions–a Democratic insistence on higher taxes paid by the rich, and a Republican insistence on so-called “tax reform” and spending cuts, aimed in particular at the earned benefit and safety net programs of Social Security, Medicare, and Medicaid.

B. A Grand Bargain or a Devil’s Bargain–How the Heck Did Social Security Even Get In the Picture?

Where the Times article fails is in its discussion of the “reasons”  for excessive worry about the “fiscal cliff” (if one can really call the GOP recalcitrance to immediately pass an extension of at least a good portion of the Bush tax cuts for individual taxpayers in the true middle class any form of reason). 
The Times article asserts that the “main disagreement” between Dems and Republicans is merely the question of extending the Bush tax rates for the top 2 percent of taxpayers.  That is a considerable understatement, one that results in part from the way the media reduces complex issues to easily retained soundbites, in that it ignores the considerable disagreement about whether and to what extent there should be any changes at all to the various earned benefit programs.

The  article author appears to operate on an unstated assumption that because President Obama seemed ready to trade off changes in Social Security, Medicare and Medicaid benefits for higher taxes on the very richest of the rich in August of 2011, he will still enter into such a “Grand Bargain” to avoid the so-called “fiscal cliff.”  Progressives hope, at least, that Obama will not fall prey to those same conclusions: Obama is now in a position of considerable leverage, and he must recognize that he cannot allow the Democrats to be extorted into a Devil’s Bargain to reduce Social Security, Medicaid, and Medicare benefits in exchange for the pittance of slightly higher taxes on the upper crust.
The article goes even further astray at the end with its label of a “two-part deal” as the “best-case outcome”.  It claims that “[m]any budget experts and economists are hoping for a two-part deal.  The first part would extend many of the tax cuts and repeal the automatic spending cuts to avert the changes scheduled after Jan. 1.  But it would be contingent on the second part: a framework for reducing projected long-term deficits by overhauling both the tax code–to raise revenues–and entitlement programs–chiefly Medicare and Medicaid, whose rising costs in an aging population are unsustainable.”  Id.

Of course, here the “many” is simply put out there without any context, so one can’t challenge the statement as accurate or inaccurate.  The right-wing has a stable of market fundamentalist economists who want to see earned benefit programs reduced, and there are certainly the Blue-Dog Dems and a number of others (like the Bowles Simpson group) who go along with that with little questioning of the ultimate negative impact on quality of life and decency of those determinations.  Overall, there is considerable parroting of the right-wing rhetoric that suggests that these vitally important programs have to be overhauled, rather than recognizing that it is the factors that lead to ever-increasing costs for medical care in the United States that must be addressed.  And it mistakenly suggests that there is a consensus in that regard. This is a perfect example of the way today’s journalists buy into the rhetoric that is promoted (at great expense) without questioning the fundamental presuppositions underlying it.  In fact, the sequester deal did not touch Social Security, Medicare and Medicaid because there was no consensus that these programs should be reduced.  And the election results demonstrate that there is no consensus now that these program benefits must be reduced, though there is likely a consensus that health care costs in this country are increasing well beyond what is reasonable.  It is absolutely critical that the distinction be made.

So let’s take these issues into consideration here.

C. Thinking about the two key components of the so-called “fiscal cliff”–tax cuts and spending cuts.

1. The Bush tax cuts, job creators, and uncertainty

The right has, not unexpectedly, argued that not extending all of the tax cuts–including those that amount to significant dollars for the wealthiest upper crust–will create a dire situation since, the right argues, the wealthy are the “job creators”.  There is no empirical evidence supporting the idea that tax cuts for the upper crust do anything to create jobs: most jobs are created by small businesses, and those with incomes above $250,000 make up only about 3% of small businesses.

Others argue that the uncertainty of letting the Bush tax cuts expire on December 31 is itself a dire blow to the economy.  But in the same breath, the media and most members of the Democratic and Republican parties acknowledge that they do not disagree on the need to extend the tax cuts for the middle income group at this time–the Democrats because they recognize that the tax cuts are still needed at a time of continuing slow growth out of the Great Recession caused by the profligate regulatory and tax policies of the Bush years, and the GOP because they recognize that they have no opportunity for an electoral majority if they continue to ignore the middle class.

Thus,  savvy political advisers note that allowing the Bush tax cuts to expire and then enacting judiciously selected tax cuts targeted at the middle class (perhaps similar to the Bush tax cuts for the lower income groups or perhaps more carefully selected and without the many corporate tax giveaways) are fairly sure things, so that the arguments from uncertainty reduce to the same-old right-wing scare tactics.

2. The sequester, military spending, health care costs, and the importance of Social Security, Medicare, and Medicaid

Some conclude that neither side wants the sequester, with its domestic spending cuts and military cost-cutting, to go into place.  This, too, may be incorrect and overly simplistic.

Many progressives recognized that we have a substantial imbalance in spending, in which we neglect public infrastructure (roads, bridges, public transportation especially rail and inter-and intra-city rail) and human capital development (funding for public education and for basic research) while pushing money at the military-industrial complex.  The latter step merely encourages the military to find ways to use the military investment it makes–i.e., more money essentially fosters war-mongering simply by providing plenty of the tools to carry it out through exorbitant expenditures on the military.  Letting the sequester take place is probably the only way that our dysfunctional Congress–with far-right-wing/Tea Party dominance in the House and the minority-control rule through the filibuster in the Senate–will be able to undo the disastrous emphasis on military spending above everything else that began with Reaganomics.
Accordingly, a better course might be to let the sequester take hold, too, and then selectively undo cuts that jeopardize sound government–such as cuts to research, centers for disease control, public transportation, public infrastructure, education, and funding of public pension obligations.  Surely the right recognizes that Americans are not happy when lax regulation results in deaths from medical care because Congress was lobbied out of regulating compounding pharmacies or deaths from bridge collapse because Congress refused to spend sufficiently on upgrading our antique transportation infrastructure or continually falling behind in research on Alzheimers and cancer and the many other modern afflictions because Congress has been so stingy with federal funds supporting basic research at our research universities.

OF course, we know from the election that today’s GOP sees no problem with cuts to various domestic programs that the Dems (and many ordinary Americans) hold dear–the right’s admitted goal since Reagan has been to reduce the size of government, on the ill-founded belief in market fundamentalism that private markets can do everything better. 

But we have years of evidence that disproves that belief, and progressives must start publicizing the absurdity of the right’s claims about market fundamentalism and the right’s denials about basic scientific theory.  Climate change is real, and investments will be required to protect our great cities.  Social Security is not bankrupt, and there is no reason that it cannot continue for years (even indefinitely) without reducing benefits.  Markets like medical care simply don’t work without governmental intervention because Big Pharma, Big Insurance, and Big Med (especially for-profit hospitals, nursing homes but also too highly compensated doctors combined with too lowly compensated aides and other assistants) exercise near-monolithic control of access and pricing, rendering the health care “market” dysfunctional, and government intervention will be required to create health-care delivery systems that serve the people.

(Even those who ascribe to Milt Friedman’s views of how markets work–views which in my view are based on unrealistic and overly simplistic assumptions that leave out most of the truth of human behavior in order to arrive at neatly mathematical formulas–recognize problems with the health care market where physicians operate in a structure of monopolistic competition.  In Capitalism and Freedom, Friedman noted that state licensing acts as a barrier to entry that gives physicians considerable market control, thus resulting in rent profits.  Friedman’s market fundamentalism solution would be to allow anyone to practice medicine without a license, thus creating consumer “choice.”  Query whether anyone without considerable wealth would actually prefer a return to those “quack” days of frontier medicine where such a market existed or would rather have a version of today’s regulated system of health care professionals with both affordability and competence. I argue that the latter is both preferable and attainable.  See below.)

The following provides some of the factual evidence for the importance of government intervention in the medical care market–European and Canadian health care, which are generally forms of government single-payer or single-payer/single-provider care, and Medicare, which is a form of government single-payer care, are both considerably less costly and substantially more universal in coverage than the standard, private market U.S. medical care model.   See, e.g., the OECD’s comparative statistics on medical care provision in the US compared to OECD countries and Canada, available here (see statistical spreadsheet here).

Total Healh Care Spending Per Person, 2010: US (8233); OECD avg (3268); CA (4445)
Total Health Care Spending* as Share of GDP, 2010: US (17.6); OECD avg (9.5); CA (11.4)
Pharmaceutical Expenditure* Per Person, 2010: US (983); OECD avg (496); CA (741)
Practicing Physicians Per 1000 Population, 2010: US (2.4); OECD avg (3.1); CA (2.4)
Practicing Nurses Per 1000 Population, 2010: US (11.0); OECD avg (8.7); CA (9.3)
Physician Consultations Per Person, 2010: US (3.9); OECD (6.4); CA (5.5)
Medical Graduates Per 100000 Population, 2010: US (6.6); OECD (10.3); CA (7.2)
*expressed in dollars adjusted for purchasing power parities (rates of currency conversion that equalise the cost of a given ‘basket’ of goods and services in different countries)

The U.S. medical care market’s high costs are attributable to a variety of factors, but perhaps the most significant is the potential for “rent” profits to Big Med, Big Pharm, and Big Insurance.
Note that the right’s “reaganomics” rhetoric has been that we have to reduce the size of government by cutting government costs specifically for the social justice programs that serve a majority of our citizens, particularly in their old age.  The right’s most important priority for reductions in government services, that is, are reductions to the earned benefit programs that it calls “entitlements” (a term that it does not extend to the various tax expenditures that provide all kinds of gravy for the upper crust and multinational corporations like Big Oil, Big Pharma, Big Banks, etc.).  The right wants to reduce the deficit on the hides of the poor, the elderly and those who have little besides Social Security and Medicare for retirement (because of their reasonable reliance on their availability to buffer the viscisitudes of private markets in their old age).  So the right proposes either privatizing (“voucherizing” Medicare; “optionalizing” Social Security) or shifting programs to the States (where reductions in Medicaid funding for the poor can be hidden more easily) and/or reducing benefits by increasing the age for eligibility and decreasing potential payments.  In other words, the right treats a problem caused by the unduly high costs of a wacky, quasi-monopolistic, market-based medical care system as best solved not by bringing the costs down the way every other civilized peer nation has done, but instead by preventing the majority of Americans from having access to decent medical care if they are poor or old and dying or physically handicapped or otherwise unable to afford private insurance.


After all, as Robert Reich argues, the “fiscal cliff” and “looming budget deficits” aren’t the worst of our problems.

The central problem of our economy is widening inequality. It’s reducing the purchasing power of the vast middle class on which job growth depends, and turning the economy into a speculative casino for multimillionaires and billionaires.  It’s also undermining our ability to turn the economy around, as those millionaires and billionaires subsidize politicians who refuse to raise taxes on the wealthy and seek to cut spending critical to the middle class and the poor.  Robert Reich, Stop income inequality!, (Nov. 15, 2012) (formatting changed).

The more I think about this, the more I am convinced that, as Kenneth Thomas says, Democrats Should Just Sit Back and Ride Over the Fiscal Cliff (in a post at Middle Class Political Economist, republished on, here) and Angry Bear here.

[The fiscal cliff] is the combination of spending cuts and tax increases set to take place on January 1 based on several different laws.  Estimates of the consequences run as high as $800 billion next year, or 5.2% of the country’s$15.29 trillion gross domestic product in 2011.  Yes, that would mean a recession, with obvious consequences for the middle class.  But this is only true if we did nothing after January 1, and that’s not going to happen.  Id.

cross posted with ataxingmatter

Is it a fiscal cliff or merely a bump in the road?

by Linda Beale

Is it a fiscal cliff or merely a bump in the road?

Sixty percent of American voters in exit polls indicated that they supported higher taxes for the wealthy, see here.  Even some arch conservatives are acknowledging that some tax increases won’t do terrible harm.  Id. (noting that the Wall Street Journal’s Stephen Moore acknowledged that Obama “can claim that he’s got a voter mandate to do that [raise taxes on the rich].” Even Conservative Weekly Standard Editor Bill Kristol counseled Republican leadership to get real.

You know what? It won’t kill the country if Republicans raise taxes a littlbe bit on millionaires.  It really won’t, I don’t think.  …  Really? The Republican party is gonna fall on its sword to defend a bunch of millionaires, half of whom voted Democratic, and half of whom live in Hollywood and are hostile to Republicans?  Nicole Flatow, Weekly Standard Editor Bill Kristol: Raising Millionaires’ Taxes ‘Won’t Kill the Country’, ThinkProgress (Nov. 11, 2012).

Nonetheless, the House and Senate Republican leadership (Rep. Boehner and Sen. McConnell) are insisting that they will not allow tax rates to rise.   McConnell told the following:

One issue I’ve never been conflicted about is taxes. I wasn’t sent to Washington to raise anybody’s taxes to pay for more wasteful spending and this election doesn’t change my principles. This election was a disappointment, without doubt, but let’s be clear about something: the House is still run by Republicans, and Republicans still maintain a robust minority in the Senate. I know some people out there think Tuesday’s results mean Republicans in Washington are now going to roll over and agree to Democrat demands that we hike tax rates before the end of the year. I’m here to tell them there is no truth to that notion whatsoever.  Annie-Rose Strasser, Senate Minority Leader: We Won’t Raise Taxes At All, ThinkProgress (Nov. 9, 2012).

President Obama Friday invited Congress to sign off on a tax cut for the middle class right away– noting that just extending the Bush tax cuts for those who make less than $250,000 would give a tax cut to 98 percent of Americans and 97 percent of small businesses.

“While there may be disagreements in Congress over whether to raise taxes on people making *over* $250,000 a year, nobody — not Republicans, not Democrats — want taxes to go up for folks making under $250,000 a year,” Obama said. “So let’s not wait.”  Adele M. Stan, Obama throws down gauntlet on fiscal cliff, (Nov. 10, 2012).

Robert Reich, now at the University of California at Berkeley, writes that the game of chicken is on.
So who blinks first? Democrats who don’t mind going over the cliff because they’ll get a better final deal – and the deal will be retroactive to January 1st so it’s not really a cliff at all but more like a little hill? Or Republicans who want to extend the Bush tax cuts beyond January 1st, until we get sufficiently close to the debt ceiling that they can once again threaten the full faith and credit of America?

As I said before, I had naively assumed the election would put an end to these games, but obviously not. Yet Obama and the Democrats are holding most of the cards now. Let’s hope they use them.  Robert Reich, Get ready for an economic game of chicken, (Nov. 9, 2012).

cross posted with   ataxingmatter

The Main Point

Peter Dorman at Econospeak brings us another reminder about policy decisions on the economy.  Reposted from Econospeak:

The Main Point

Macroeconomics is complicated and political economy is devilish, so it is easy to get lost in the details. From time to time, it’s good to come up for air—to remember what the fundamental issue is. In a way, the debate over structural versus cyclical factors invites us to do just that.

Suppose the current recession/depression is mainly structural. Suppose it is due to an immense misallocation of capital and labor, a failure to foresee what our economy would really demand in the years ahead. According to this story, we have trained too many masons and anthropologists and invested in too many building cranes and liberal arts colleges, and it will take years to shift our human and produced resources to more valuable pursuits. (Actually, I think there continues to be an enormous misallocation of investment, but this will become apparent only when the threat of global warming is taken seriously.) If the structuralist story is right, the ongoing slump is necessary and unavoidable and will end only when we have fashioned the resources for producing the right stuff.

If the cyclical story is predominately true, however, we have neither the wrong people nor the wrong capital stock. We have all the ingredients it takes to have a vibrant economy that can fully employ our populations and generate a standard of living that surpasses what we had in the past and that keeps growing further. But think about it: if we have the wherewithal to resume prosperity, what holds us back? And why should rational people accept any excuses for policies that delay it?

Repeat: we have everything we need, right now, to restart our economies. All the unemployment, the hardship, the lost opportunities are unnecessary. That’s the main point.

The secondary point is about the why. There are ultimately two reasons why economies like ours get stuck in a cyclical rut. The first is that there is a reinforcing cycle of insufficient demand and insufficient investment. This is where standard countercyclical policy comes in: through fiscal deficits the government increases demand on its own initiative, and through monetary easing an impetus is added to investment. We are near the limit of what easing can do (diminishing returns to the QE’s), but not anywhere near the limit of fiscal expansion.

The second reason arises in balance sheet recessions: too much private borrowing has taken place, debtors find it difficult to sustain debt service, and both debtors and creditors retrench. In this case, which is ours, the essential problem is that fulfillment of claims on wealth—both credit claims and equity claims on debt-related assets—interferes with the conditions required for restarting growth. In other words, the shadow of past wealth creation is depriving new wealth creation of sunlight. While respecting wealth claims is desirable during normal times, since it supports long-term planning, there come episodes in which a choice must be made between the past and the future. This is such a time. Wealth claims need to be trimmed, quickly and sufficiently, in order to reduce leverage and permit economies to return to growth. We shouldn’t forget the main point, which is that economic growth produces the stuff of which real wealth is made, while satisfying the claims inherited from yesterday only allocates this stuff. (And in a slumping economy the claims can’t be honored anyway.)

If you accept the cyclical story, and the evidence certainly weighs in its favor, you should not accept another month, much less year after year, of excuses for austerity.

Scaling to New Depths* with Scott Sumner

by Mike Kimel

Scaling to New Depths* with Scott Sumner

I’ve been having a bit of back and forth with Scott Sumner. Here is his latest post, helpfully entitled: “A suggestion for Mike Kimel.”

His key suggestion:

“Please take a close look at the data from the Great Depression, before doing more posts claiming I don’t know the facts.”

He then goes on to point out he’s been studying the 1933 period for 20 years. From there he goes on to explain my first mistake:

He insists that FDR’s dollar depreciation program began in October 1933, even though all economic historians agree in began in mid-April 1933, when the exchange rate for the dollar began declining (against gold and against other currencies.) He insists prices began rising before FDR took office off, which is not true. He presents a graph that he claims shows prices rising before FDR took office, but his graph shows inflation rates, not the price level. In fact, the graph actually supports my argument that inflation didn’t turn positive until after FDR took office. There’s a difference between the rate of inflation and the price level.

OK. Let’s redo the graph showing not inflation but rather the price level. And I’ll keep it very simple… I will limit it to two points. Well, three, though the third is not exactly on the curve so to speak. As before, I’m still using PPI because its the publicly available source most closely related to the prices Sumner seems to be discussing, and I’ll use the graphics tool at the Federal Reserve Economic Database (FRED)

Figure 1.

The graph shows the PPI for February and March of 1933. FDR took office in March 1933.

As I noted in my previous post,

You can see the decline in prices halt and start reversing even before he took office.

Now, I don’t remember arguing that inflation didn’t turn positive before then. To me, its a big deal that PPI hit rock bottom and reversed itself. Getting out of free-fall was in itself a big deal. Here’s a graph for 1929 to 1934 to give you an idea:

Figure 2.

Note that February 1933 happened to be the low point for PPI during its entire history, and the PPI had been calculated since 1913.

But there’s another important point in the quote I provided above, namely this:

He insists that FDR’s dollar depreciation program began in October 1933, even though all economic historians agree in began in mid-April 1933, when the exchange rate for the dollar began declining (against gold and against other currencies.)

This isn’t quite right. As I’ll make clear, I don’t think the dollar actually depreciated against gold until January 1934. Sumner was so insistent on this depreciation occurring before then that I spent a bit of time on google and found a story by Jesse Jones, head of the Reconstruction Finance Corporation, about how FDR had him and soon to be Treasury Secretary Morgenthau help him (FDR) revalue the price of gold.

Now, I am not an economic historian, and I’m not sure I know any these days, so for all I know, Sumner is correct about what all economic historians agree happened. I am, instead a data guy. I like data. Scratch that. I love data. I go through data in my spare time. Most of the stuff I do at this blog, for instance, has absolutely nothing to do with my day job. Nothing. But its an opportunity to play with data. My wife usually scratches her head wondering why I do this kind of thing, but everyone needs a hobby and I don’t watch tv.

One thing I’ve learned with data is that its generally important to go back as close to the original source of data as possible. Another is to know something about your sources. Go through the data. Read footnotes.

So in that spirit, I decided to try see what I can learn by looking for data from the era or thereabouts, ideally coming directly from the folks who collect it. I have not succeeded in finding a series that shows what Sumner claims. In fact, data from around that era, particularly on gold prices, isn’t easy to come by. But I have found a few examples.

For instance, Table Number 230 of the 1936 Statistical Abstract of the United States shows the supply of gold in the United States on June 30 of each year (going back annually to 1887, and with selected years before then). The data seems to originate with the Treasury and the Fed, though I haven’t been able to locate the contemporaneous originals.

Footnote 1 reads in part:

By a proclamation of the President dated Jan. 31, 1934 the weight of the gold dollar was reduced from 25.8 to 15 5/21 grains of gold, 0.9 fine. The value of gold is therefore based on $35 per fine ounce beginning June 1934; theretofore it is based on $20.67 per fine ounce.

In other words a couple months after Sumner and other economic historians believe the dollar had started losing value against gold, the Fed and/or the Treasury were reporting to the Census (which publishes the Statistical Abstract) that the price of gold was still exactly the same as it had been.)

Now, its possible the Census or the Fed or the Treasury made a mistake and it went uncorrected by the time of the 1936 Statistical Abstract. So one source is not enough, especially when Sumner and “all economic historians” agree it is wrong.

Which leads to a Fed document called Banking and Monetary Statistics 1914 – 1941. This is from the section on gold (bottom paragraph, left hand column, page 522)

All figures are in dollars, calculated at the rate of $20.67 per fine ounce of gold through January 1934 and $35 per fine ounce thereafter (except that the figures for the year 1934 in Table 159 are based upon the $35 gold price). The change in rate results from the fact that on January 31, 1934, the dollar was devalued by 40.94 per cent in terms of gold in accordance with a proclamation issued by the President.

If you’re curious, $35 – $20.67 = $14.33. $14.33 happens to be 40.94% of $35.

The document is chock full of tables that show, including other things, the monthly value of US gold holdings. Where dollar figures are involved, those tables also carry a helpful note indicating the price as $20.67 an ounce through January 1934, and $35 an ounce thereafter. Note that the Fed valued monthly holdings at $20.67 an ounce in April, May, June, July, August, September, October, November and December of 1933 when, all along, according to Scott Sumner who spent 20 years studying the era and “all economic historians,” insist the price of gold had been rising at the time.

I’ve stumbled on a few other sources as well but they don’t look any different. I’m just not seeing the series that shows the dollar price of gold rising during the months from April 1933 to January 1934.

So what is going on? I’m going to split the baby here and suggest that both Scott Sumner and “all economic historians” are right that there was a devaluation, and the Fed and the Treasury and the Statistical Abstract of the United States were (and are) right that there wasn’t. But the way in which they are right is very definitely not a good thing for Scott Sumner and “all economic historians.”

See, as I said above, I’m not an economic historian, but I did spend my formative years in South American in the 1970s and 1980s. As anyone who spent roughly the same years in the region as I did could tell you, or as any Zimbabwean can do today, during times of turmoil (which can last decades) the official exchange rate can come to bear no relationship with the actual price at which a currency trades against something that is considered more stable and more desirable to hold. Heck, you don’t have to track down someone from Arrgentina or Zimbabwe – ask any European who ever visited the Soviet Block and traded in some Western currency at the airport or the border about how unrealistic official exchange rates could be. In many an economic basket case, the likelihood that a transaction takes place at anything resembling the official exchange rate is similar to the probability that someone walks into a Chevrolet dealership and pays the MSRP, in cash.

And like the MSRP, the official exchange rate has a purpose. Yes, there’s always someone clueless or coerced enough to pay that price. But for the most part, its a fiction that either serves as a baseline for something or papers over something the government wants to really do, usually printing money. Its a handy excuse to get from point A to point B, and if the excuse doesn’t fly, another one will do.

My guess, and I’ll repeat that I’m not an economic historian, is that when FDR and Jones and Morgenthau were picking prices out of the air, it was in that vein. The country was in turmoil when FDR took office, and there were fears that if things got worse there would be an armed insurrection. It wasn’t a time for half measures. My guess is the mood in the White House at the time was best summarized by a quote decades later from the immortal John Candy, “There’s a time to think, and a time to act. And this, gentlemen, is no time to think.”

So what did the fiction of changing the price gold accomplish if nobody else believe that the price had actually changed? I suspect it meant, in practice, that the Reconstruction Finance Corporation could pay more than $20.67 an ounce for gold. And why would the RFC (which, I note, could borrow outside the budget) want to pay more than $20.67 an ounce for gold if that was the price everyone was accepting?

Think of the RFC the way you think of the Fed trying to bail out banks in recent years – loaning money at below market rates to banks who then used the money to buy Treasuries which paid higher rates. In effect, paying more than $20.67 an ounce was a way to funnel riskless profits to banks. (Of course, the RFC often replaced management, but things have gotten permissive as well as more sophisticated in recent decades.)

Which brings us back to Sumner and “all economic historians” being right, at least technically. Yes, the currency was being devalued throughout much of 1933, but no, it wasn’t. Not really. There were a series of fictional devaluations that served a specific purpose, but which nobody else made believe was real (and its possible which almost nobody else was aware were happening – don’t ask me, I’m not an economic historian). Pretending otherwise, and using that fictional data to do an analysis is the equivalent of trying to understand the East German economy in 1974 using the exchange rates a traveler would have received at Checkpoint Charlie during that year.

* The title comes from a book put out by Mad Magazine in the 1970s or 1980s. Sorry I can’t be more specific – it has been a while

Endogenous business cycle spending + tax receipts at record lows = deficit hysteria for the wrong reasons

Readers here will know more about the US federal government income statement than I. However, given the near ubiquitous deficit hysteria, I wanted to illustrate the truth about the budget deficit. The truth is, that deficit hysteria has been set in motion by A surge in government spending on items like unemployment compensation, food stamps, and other types of ‘support payments to persons for whom no current service is rendered’ AND low tax receipts. Yes, long-term reform is needed; but my general conclusion is that the deficit hysteria is sorely misplaced.

First things first, the fiscal deficit – receipts minus net outlays as a % of GDP – is big. In June 2011, the 12-month rolling sum of net receipts (the budget deficit) was roughly 8.5% of a rolling average of GDP. This is down from its 10.6% peak in February 2010, but the level of deficit spending clearly makes some nervous.

Why should they be nervous about the ‘level’ of the deficit? I don’t know, since recent ‘excess’ deficits are cyclically endogenous. The chart below illustrates the spending and tax receipt components of the US Treasury’s net borrowing (see Table 9 of the Monthly Treasury Statement). Weak tax receipts and big spending are driving the federal deficits (spending, as we will see below, has surged on items directly related to the business cycle).


In June, the 12-month rolling sum of tax receipts – mostly corporate and individual income taxes and social insurance and retirement receipts – was 15.6%, which is up from its 14.5% cyclical low in January 2010. On the spending side, net outlays in June 2010 were a large 24.2% of GDP and down just slightly from the 25.3% peak in February 2010.

Deficit hysteria should be more appropriately placed as “lack of jobs and tax receipts hysteria”. At this point, the budget could just as easily worsen as it could improve, given the fragile state of the US economy (see Tim Duy’s recent post at Economist’s View).

Why the wrong hysteria?

Reason 1. Taxes. Some would love to increase taxes – but the fact of the matter is, that tax receipts remain well below their long-term average of 18% of GDP. Tax receipts will not improve without new jobs since individual income taxes account for near 50% of total receipts.

Reason 2. The spending has been on cyclical items.

The best time to ‘worry’ about government spending is NOT when the economy is barely moving.

The chart below illustrates the big ticket items of the monthly outlays – roughly 87% of total outlays. The broad spending components are listed in Table 9 of the Monthly Treasury Statement. The long-term average shares of total spending are indicated in the legend.

The items health, medicare, and income security (inc security) are all above their respective long-term averages. But spending on income security outlays is the only spending component to have broken its trend, i.e., surge. According to the GAO’s budget glossary (link here, .pdf), this item includes the following cyclical spending:

Support payments (including associated administrative expenses) to persons for whom no current service is rendered. Includes retirement, disability, unemployment, welfare, and similar programs, except for Social Security and income security for veterans, which are in other functions. Also includes the Food Stamp, Special Milk, and Child Nutrition programs (whether the benefits are in cash or in kind); both federal and trust fund unemployment compensation and workers’ compensation; public assistance cash payments; benefits to the elderly and to coal miners; and low- and moderate-income housing benefits.

It’s spending on unemployment and food stamps that’s driving spending at the margin.

The same deal exists with the ‘smaller ticket items’. Of these

OK – so deficit hysteria is about, but it’s misplaced. One could argue for more, not less, spending to get the jobs growth, hence tax receipts, up.

Rebecca Wilder

Simon Johnson on the apparent new deal in politics

Baseline Scenario links to Simon Johnson’s thoughts on current practice of politics. Well worth the time to read and comment.

Delusions Of Fiscal Grandeur
by Simon Johnson

If you honestly believe that investors will happily buy up any amount of US government debt (at low interest rates) for the indefinite future, then relax.  The tax deal passed yesterday should make you happy.

But if you fear that the US will soon be tested by financial markets – just as the eurozone is being tested today – then please read my column,”Voodoo Economics Revisited“, which is now on the Project Syndicate website.  There is a well-established tradition in the Republican Party of thinking that tax cuts cure all ills; many in the Democratic leadership have apparently now fallen into line.  We need to think hard about what our fiscal crisis will look like – and who will end up being hurt the most.

Another link to the column:

More on the White House "deal" on tax cuts

by Linda Beale
More on the White House “deal” on tax cuts
crossposted with Ataxingmatter

Dan Shaviro, a colleague at NYU, ends up being hopeful about the Obama-GOP deal. See “The deal on extending the tax cuts“, Start Making Sense, Dec. 6, 2010 and “The tax cut deal: too soon to tell who really won?“, Dec. 7, 2010. I think that is because Dan tends to credit Economics 101 with considerably more wisdom than I do (and place “efficiency”, as defined by the free marketers, higher on the wish list for tax policy than I), so he thinks Social Security isn’t on a sound footing and that benefits will need to be cut; thinks expensing for corporations is a reasonable way to spur growth; thinks there is some possibility that the 2012 replay of “Bush tax cuts, take 2” might play out in favor of Obama if he is “very clear that he planned to veto any extensions and let all the tax cuts expire UNLESS the Republicans made the deal he requires”. I’ll intersperse my comments with Dan’s below.

1) extending all the expiring individual rate cuts for 2 years:

Dan says “we knew this was going to happen” so the only problem is that it comes up again in 2012 when Obama will “might face extra credibility problems”.

I think we only knew this was going to happen because Obama didn’t fight on this at all. Obama signalled at the beginning that he would cave, and he did not take to the bully pulpit at all. He conferenced with Republicans and cut out the Democratic leadership in reaching his “deal”–which is a Republican policy in everything but name.

2) extending unemployment insurance through 2011:

Dan says it is an important stimulus and “wasn’t going to happen otherwise.”

I agree on the stimulus. But the Dems should have brought unemployment extension up on a daily basis and forced the Republicans to vote against it. So the “wasn’t going to happen otherwise” is part of the give-up before you start negotiating that got us into this mess.

3) reduce the Social Security payroll tax by 2% for one year:

Dan says “good stimulus” though “targeting could have been a lot better” and admits my point (made when payroll holidays were first brought up) that the payroll holiday feeds into the drive to decimate Social Security by hitting the Trust Fund. But Dan thinks the “concern” about long-term fiscal problems is real, and so is comfortable with addressing it “sooner” anyway.

I disagree. The concern about Social Security is being hyped in order to destroy Social Security as we know it. It is in line with the enmity towards unions, towards single payer health care, towards re-regulation of the banks, towards breaking apart big banks, and towards any other policy that would restore a vibrant middle class. By allowing a payroll holiday for everyone, the majority of the benefit goes to people who don’t really need it, and too little benefit goes to those who do. Targeting is better than a tax cut purely for the rich, but that isn’t saying much. Doing some stimulus in a means that pushes the GOP agenda to eviscerate Social Security forward is like tying one hand behind your back–a rather unwise way to enter a long-term battle for the economic future. Will we have the brutal mix of casino and winner-take-all capitalism that has driven most of this country’s policies from Reagan on or will we have a tempered capitalism that ensures a broad-based growth and creates an economic system that works for everyone? The Republican’s aims to let states go into bankruptcy and use that mechanism to destroy public employee unions says they are in this battle to destroy the New Deal if they can. We need to fight just as hard on the side of the middle class.

4) Estate tax cut by increasing the exemption from the 2001 level to $5 million (basically 500% of the 2001 amount) and lowering the top rate to a mere 35%.

Dan thinks this might actually be preferable “in efficiency terms” to the current law, which would have restored 2001 rates in 2011, if done in a “distribution and revenue neutral framework”. And even though this isn’t that, he doesn’t think a more progressive estate tax “is long-term feasible anyway.” So this is not “a terrible outcome in a realistic overall sense.”

Here we part ways 100%. There is no such thing as a distribution and revenue neutral framework–that is a fiction of economics 101 that permits what we have seen, which is four decades of redistribution upwards. Further, distribution neutral is not desirable in an economy where the winners already take all–if we don’t reverse the direction of distribution in this economy, we will end up in oligarchy (if we aren’t there already). In that context, this was the single most viable opportunity for reinstating an appropriate estate tax, either by letting the Republican-passed law take hold (return to 2001 exemption and rates) or by passing a slightly modified but ideally more progressive version (higher exemption but progressively higher rates beginning at 45%). This is indeed “a terrible outcome in a realistic overall sense.”

5) extensions of the EITC, tuition tax credit and expensing (as well as the R&D credit, not mentioned by Dan

Dan says that the EITC and tuition tax credit are okay because they may add progressivity and the expensing provision is okay as a short-term stimulus.

The EITC is okay. Tuition tax credits just subsidize the things colleges spend money on that they don’t want students to have to feel they are paying for–like too high administrative salaries (across-the board, at private and public universities). We ought to fund higher education at public institutions, but with conditions, such as limiting the percentage of total budget spent on administration or on the revenue sports, etc. As for expensing, it is unclear how it can be stimulative in this context, when the reason companies aren’t expanding is because they don’t see a demand for the business. Most companies have the cash on hand and can borrow at a funding cost that is extraordinarily low. That isn’t what is holding back investment. Odds are, the savings from expensing will just go to another round of higher manager salaries and big payouts to shareholders (who will also continue to benefit from an extraordinarily low dividend and capital gains rate under the deal).

Dan seems to think that Obama will be able to argue credibly that “this time I mean it” when it comes to the 2012 election and the Bush tax cuts are ready to expire once again. Fat chance. There’s nothing so far to convince anyone–Obama caved before fighting on the public option and on taxes for the rich and on the estate tax and on capital gains and on carried interest and on and on. Obama in fact is now pushing his Democratic colleagues to support an agenda that will easily get 100% Republican support and maybe enough reluctant Democratic support to pass, rather than rallying them to fight so that he can veto, if need be, wrong-headed legislation. So he has proven that the Dems lose in the minority and they don’t bother to fight when they are in the majority. No way his base will trust him to do it better next time around.

Meanwhile, the GOP is already blaring that there is no way that they’ll give an inch on anything. They won’t support the Build America Bond program, because they want states to declare bankruptcy as a means to destroy public employee unions. And they don’t seem to care that they are destroying the American social contract between the wealthy and the rest of us at the same time–we are what we are because we have recognized the importance of a strong middle class that acts as a check on oligarchy. Yet the Republican party–and now too many Dems–are willing to throw it all away just to get elected one more time (maybe) in the future.

In my view, the American people are the losers here. The AMT patch primarily helps those with high incomes. Most of those who pay the AMT because of bracket creep are in the 250-500,000 income range–certainly not middle class. Only a few are in the 75-100,000 range. The extension of extremely favorable taxation of secondary market capital gains and dividend income is of benefit to the wealthy who own most of the financial assets. The extension of the tax rate cuts even below 250,000 already aids the wealthy–adding the tax rate cut at the top means that most of the rate cut goes to the very well off. This is a very good deal with corporate managers and owners, and rotten for ordinary Americans. It’s the upside down world of George W. “the have-mores are my base” Bush.

The Impoverished, and Impoverishing, Debate about Fiscal Deficits

by Peter Dorman

The Impoverished, and Impoverishing, Debate about Fiscal Deficits
originally posted at Econospeak

It is like living in a dream—a very bad dream. Everything seems at once real and imaginary, serious and deliriously impossible. The language is familiar and incomprehensible. And it seems there is no waking up, ever.

I’m talking about the “debate” over America’s fiscal deficits, which is what I stumbled into after a night of much happier visions. Now, according to this morning’s New York Times, the left has weighed in with its own plans to achieve deficit stability. Of course, it is more reasonable than the pronunciamenti of the Simpson-Bowles cabal, with a wiser assortment of cuts and more progressive tax adjustments. Still, it is part of the same bizarre trance, disconnected from the basic laws of income accounting.

All you need to know is the fundamental identity. In its financial balance form, it appears as:

Private Deficits + Public Deficits ≡ Current Account Balance

If the US runs, say, a 4% CA deficit, the sum of its net public and private deficits must equal 4%. You can’t alter this no matter how you juggle budgets.
Add to this one more piece of wisdom, which we should have learned from the past three years, even if we were blind to everything else: private debts matter as much as public ones. The indebtedness of households, corporations and financial entities can bring down the economy as readily as the profligacy of the public sector. In fact, in the grip of a crisis (which we have not yet escaped), private deficits are far harder to finance because of their greater default risk. That’s why governments slathered themselves with red ink: they borrowed to assume the debts that private parties could no longer bear.

So what does this mean for US fiscal deficits? Isn’t it obvious? Public deficits can be brought down only to the extent that the private willingness and capacity to borrow increases and current account (mostly trade) deficits shrink. There is still an important discussion to be had over the size and composition of revenues and expenditures, of course, but this is only about how, not how much. To put it differently, if private deficits and the external position of the US economy remain as they are, planned deficit reduction by the government cannot be realized. Revenues will fall along with spending, the economy will take a dive, and actual fiscal deficits will be unmoved. This is guaranteed by the laws of arithmetic, and you can see such a process happening in real time in the peripheral Eurozone countries.

What can break this fall? The current account constraint can be relaxed as falling incomes drive falling imports, but this entails an economic catastrophe unless devaluation can do the job instead. Or the borrowing capacity of the private sector can rise, but this is inconceivable in a collapsing economy. Or, facing the abyss, those who run the show can dispense with all the nonsense about fiscal prudence in isolation from surrounding economic conditions, and open the spigots once again.
My prediction: if there is deficit-cutting in the US of any sort before the private sector is prepared to take on more debt and, especially, approximate trade balance is restored, we will see exactly this third scenario. The economy will take a dive, political leaders (whether of the latté or tea persuasion) will spend like crazy, and fiscal deficits will be larger than ever. The deficit-cutting debate is delusional.

Ireland: the battle against "markets"

by Rebecca Wilder

Ireland: the battle against “markets”
crossposted with Newsneconomics

Is it the sheer size of its contingent liabilities that is driving Irish spreads? Finance Minister Brian Lenihan thinks so via the Irish Independent:

“There is no doubt in my mind that while the announcement on the banking sector in September was not disbelieved by the markets, it wasn’t fully believed either because there is a wait and see policy of seeing whether it is an accurate account of exposures in the banking system,” the minister said.

Or is it German Chancellor Angela Merkel’s recent rhetoric? According to the Irish Times, since her most recent statement on private haircuts, “All stakeholders must participate in the gains and losses of any particular situation”, officials are readying the EFSF for possible tapping by the Irish government:

The Irish Times has established, however, that informal contacts are under way between Brussels, Berlin and other capitals to assess their readiness to activate the €750 billion rescue fund in the event of an application from Dublin.

The EU quashes this rumor.

Or is it that “markets” just don’t buy the Irish fiscal austerity reduces the Irish budget deficit story? According to the Irish Independent, this is the opinion of Nobel laureate Joseph Stiglitz (mine, too, by the way):

“The austerity measures are weakening the economy, their approach to bank
resolution is disappointing,” Stiglitz, a Columbia University economics professor, said in an interview in Hong Kong today. “The prospect of success is very, very bleak” for the government’s plan to resolve the problem, he said.

What’s driving spreads? (They’ve come off a bit today, but they’re still just under 600 basis points over German bunds (as of 6am this morning).) Furthermore, the EU came out with a statement that reiterates the exclusion of outstanding debt on any new restructuring mechanisms:

..does not apply to any outstanding debt and any programme under current instruments. Any new mechanism would only come into effect after mid-2013 with no impact whatsoever on the current arrangements.

The answer is, it’s probably a mix of the three above. Markets are starting to price in an insolvent government balance sheet, which will ultimately lead to default – some call Ireland’s sovereign balance sheet insolvent but still liquid .

I side with Stiglitz, that ultimately its deficit reduction plan will reveal the axiom that is the three-sector financial balance: if you don’t have a surge of external income, then the private sector and the public sector cannot simultaneously increase saving.

Exhibit A. The year of austerity – and even harsher and more front loaded austerity is on the way – has proven to squash growth prospects for the Irish economy compared to the average, which is the Euro area.

The chart illustratest the index of quarterly GDP, as reported by Eurostat. The Euro area data is current through Q3 2010 (only on a “flash” basis), while the Irish GDP figures are available through Q2 2010. These numbers are not annualized; but as of Q2the Irish economy is running 11% below its Q1 2008 level of GDP, while in Q3 the Euro area as a whole is producing just 2.7% short of its Q1 2008 level.

But the Irish government is sticking to its plan. Recently the Central Bank of Ireland published its quarterly report, where it simultaneously downgraded the growth forecast AND announced that further action will be taken to bring the government deficit to 3% of GDP by 2014. Since then, the government announced deficit cuts that exceeded those originally planned by a factor of two. Seems fishy to me.

Rebecca Wilder