Sunday, March 10, 2013

JoScar and Krugman and Sachs!

Joe Scarborough and economist Jeffrey Sachs wrote an opinion piece in yesterday’s Washington Post (here), in which Scarborough continued his month-long obsession with Paul Krugman that began when Krugman was a guest on Scarborough’s MSNBC show.  In the original discussion on Morning Joe, Scarborough talked about the great, accelerating and unsustainable rise in federal spending that he claimed has been rampant over the last few years: Scarborough is a conservative, and this idea that spending is out of control, that it is (as Scarborough said elsewhere) “exploding”, is an accepted view in his world.  But Krugman corrected him, telling him that while there was a substantial increase in spending early in the recession  (in 2008 and 2009), federal spending has been fairly flat since then, and total government spending (including state and local) has declined. 

In this dispute I’ll come down (with a reservation) on Krugman’s side, which will surprise no one, but I’ll add a caveat on Scarborough’s side, which may surprise my friends.   But I’ll put that question off for the moment.  Because what I want to write about here is an assertion right at the top of the Scarborough/Sachs opinion piece. Krugman wrote a response to the column here, and again here; Mark Thoma responded here.  So I’m late to this discussion.  I meant to say something right away, but work other responsibilities have delayed me.  But there is one point to make that I think has been underplayed in all the discussion.  It’s the reaction I had immediately when I read the very first line of the Scarborough/Sachs column, which says:

Dick Cheney and Paul Krugman have declared from opposite sides of the ideological divide that deficits don’t matter, but they simply have it wrong.”

The emphasis is mine. 

Now, Dick Cheney did say that deficits don’t matter, but  Krugman most emphatically did not.  Just the opposite.  In fact, between the two of them, it’s Scarborough that claims that deficits don’t matter in any extended sense, that is, apart from their impact on the national debt. But Krugman, and many others, would say that deficits and surpluses do matter very much, and have significant economic impacts not only on debt in the long run but on general economic activity in the short run.  This is an important and misunderstood point.

A bit later in the piece, Scarborough and Sachs say this:

“It has become part of Keynesian lore in recent years that public debt is essentially free, that we needn’t worry about its buildup and that we should devote all of our attention to short-term concerns since, as John Maynard Keynes wrote, “in the long run, we are all dead.” But that crude interpretation of Keynesian economics is deeply misguided; Keynes himself disagreed with it.”

Yes, Keynes did disagree with it, and so does almost everyone else, including Krugman. Krugman has said in many places that he is concerned about debt in the longer run, and deficits do add to that long run burden.   In fact he explicitly said so in the link that Scarborough and Sachs provide.  He says:

The key thing to remember is that current conditions — lots of excess capacity in the economy, and a liquidity trap in which short-term government debt carries a roughly zero interest rate — won’t always prevail…once we’re no longer in a liquidity trap, running large deficits without access to bond markets is a recipe for very high inflation, perhaps even hyperinflation. And no amount of talk about actual financial flows, about who buys what from whom, can make that point disappear: if you’re going to finance deficits by creating monetary base, someone has to be persuaded to hold the additional base.”

But the important point is that for Keynes, and Keynesians, that is not the only impact of deficits and not the only way that deficits matter, and that while deficits “matter” in the long run by adding to the debt, they also “matter” in the short run by adding to demand.  And while austerity may matter in the long run by decreasing the future debt, it also matters in the short run by decreasing demand, and as a result decreasing economic activity.  Debt as a share of GDP may even rise, since GDP declines under austerity.  Both the numerator and the denominator in that fraction are important.

Scarborough, though, seems to see the impact on debt as the only way that deficits matter. Scarborough is not alone in this; many (very good!) conservative economists claim that deficits crowd out other spending, and have little impact on overall demand even in the short run, and that therefore deficits have no positive short run impacts to counter their negative long run impact on debt.  But the alternative view, the one that is promoted by Krugman and others, is that in the short run deficits, in the absence of any counteracting force or policy, increase total demand, and so they stimulate the economy, while surpluses do the reverse. What Krugman has argued repeatedly is not that the long run debt issue doesn’t matter, but that the short run positive impact of deficits right now, while unemployment is still high and we are up against the lower bound on interest rates, matter more. 

Now, on the facts of spending over the last few years: contrary to almost universal belief among both conservatives and progressives, while federal spending did grow in 2008 and 2009 it has not “exploded” in the last few years.  In fact, it been fairly flat since the end of 2009.  Here’s the graph from FRED, showing the natural log of federal spending since 1959, which is as far back as this series goes:

The gradual upward slope is a result of many things, including population growth and inflation, but of course also because of increases in spending on entitlements due to an aging population and rising health care costs, and during the Reagan and Bush II years increased spending on defense.  The thing to look at here is the deviations from that long upward trend.   There was a significant rise in 2008 and 2009, the last year of the Bush administration and the first of the Obama administration. Then the line becomes as flat as it has been in decades.  In fact there since the beginning of this series in 1959 it has never been this flat for this long. 

It’s easier to see this if we look at the graph only in this century.  Here is that shortened graph, with the Bush years trend line added in red:

In this graph it’s clear that even though there was a large expansion of spending in 2008/2009, we are now below the trend of federal spending from the bush years.

But the other side---the Scarborough/Sachs side---of this picture shows up in the graph below, which shows federal spending as a share of potential GDP:

In this graph you can see that spending as a share of potential (full employment!) GDP did “explode” at the beginning of 2008, at the start of the biggest recession since the Great Depression.   In my opinion that was natural and appropriate.  But you can also see that the explosion is long over.  Spending/Potential GDP  has been dropping like a rock in the last few years.  You can attribute that to Obama or to the Republican House at your whim.

Spending as a share of potential GDP is still high, though. It is now, finally, below the peak, which occurred in 1985 under Ronald Reagan.   At the last measured point, at the end of 2012, it was still near the highest it has been since to the beginning of this series.  On the other hand, that last measurement was before the fiscal cliff, which both cut spending in increased revenues, and before the sequester cuts which cut spending even more.

So JoScar and Sachs have---or had, at the end of 2012---some data on their side. 

The direction is wrong for them, though.  We’ll see how that goes over the next few months.    

Sunday, March 3, 2013

Sequester again

So.  We are now officially into sequestration, and I don’t see any immediate incentive for either side to get us out.  The thing was designed to contain at least one thing that each side disliked, to force them to the table to compromise, but the designer, probably Jack Lew, made a mistake: he also fenced off for each side the one thing they simply could not accept, the one thing they not only disliked but abhorred.  The Republicans are afraid that any new compromise will raise taxes, and the Democrats (at least the more progressive Democrats) are afraid that any new compromise would devastate support for the old, the sick, and the poor.  For each side sequester, sour as it is, is still sweeter than the compromise they fear.

In my last post on sequester I waited until the end to say this, and from a facebook conversation I know that there are people who didn’t read to the end.  Not surprising.  I do the same kind of thing whenever I try to read Charles Krauthammer; I can never get past the first paragraph of pompous sneer and misdirection before revulsion pushes me on to the next column.  For all I know Krauthammer may say brilliant and insightful things in the third and fourth paragraphs, but I never get that far.  So let me put this quote from the end of my last sequester post right up front here:

“For the average person in an average day, going to the job he or she still has and going home, cooking dinner and watching TV, caring for children, there will be no immediate cataclysm they can point to and blame on sequester.” 

Translation: I think it’s a serious mistake for Obama to overstate the short run cost of sequester, in part because most people won’t really feel any significant short run cost.

The consensus estimate is that it will reduce economic growth this year by one half of one percent.  So it will slow growth down, but on its own it probably won’t sink us into a new recession.  It will just mean that the long slow recovery will just be a little longer, and a little slower,  a little more grinding, and a little more fragile to external shocks.  With interest rates at the zero lower bound, I don’t think the Federal Reserve can do much to save us if external shocks---say, an economic crisis in Europe---do come along.  But if the world continues to limp along as it has been doing, there is no impending cataclysm.

The house Republicans have created a long series of crises, and we still have at least two ahead of us over the next few months.   But if they had to pick one of their crises to allow to ripen and bear fruit, this was the one to choose.  The others would either shut down the government completely (if they fail to pass a budget or a continuing resolution), or throw the Treasury into default (if they fail to pass a debt ceiling increase), so this is the one that will cause the least damage, and for most people the least pain.

But if it’s a mistake for Obama to overstate the costs, it’s also a mistake for others to understate them.  in that former sequester post I also said that:

“I expect the usual jokes about how the government shut down and no one noticed.  But those jokes are ignorant, and dangerous.”

And of course we are already hearing those jokes, and seeing them in political cartoons.  And we’re seeing columnists and others (such as George Will here, or today’s interesting op-ed piece by a former Republican hill staffer named Mike Lofgren here) claiming that the sequester is trivial, that the $85 billion total that will be cut from our $3.6 trillion budget is only 2.3%, so it’s nothing to worry about. 

Yes, the total budget is huge---we’re a huge country---and compared to that huge budget the sequester is small.  But the sequester cuts don’t come from the total budget.  They can’t.  We can’t at a whim just cut the interest payments on our national debt, for example, or our Medicare or Social Security payments, or military retirement, or military pay for active duty personnel, or a host of other non-discretionary spending.  The sequester spending cuts have to come out of a much smaller pie.  And as a result the great majority of federal civilian employees will face unpaid furloughs, generally of one day per week, starting in late April.  That’s not 2.3%.  That’s a 20% cut in income, and so for the whole of the federal government’s labor force the sequester, if it endures, creates a quick and significant hurt.   And for the rest of the country, those furlough days will create risk and stress, not for everyone, but in patches here and there.  Food inspection is one area that has had a lot of play in the news.  The result of fewer food inspectors will not be riskier meat, because risky meat cannot be sold.  The result will be less meat available, smaller supply and so, at least in theory, eventually somewhat higher prices.  Not catastrophe, but irritating to us omnivores.  And other scenarios will play out in many areas where public services will diminish.  Border security, embassy security, FAA, FEMA, wildlife fire management, child nutrition, student financial assistance, and on and on.  Refugee assistance.  Aging and disability services.   Air marshals.  $372 million from the FBI; $102 million from the DEA.  $45 million from the Small Business Administration disaster loan programs, and $24 million from the SBA business loans program.  On and on.  A few million here and there, as the total $85 billion gets parceled out to the lowest level.  You can download the whole list here; this is a PDF of the letter sent to John Boehner outlining the specific sequester cuts. 

Do all of these cuts spell disaster?  No, certainly not, at least not for those who are not directly effected by furloughs or sudden loss of services or support they need.  Not in the short run, anyway. Vegetarians won’t care if there is less meat.  People who don’t fly much won’t care if the FAA budget is decreased.  Those who do won’t even notice the absence of air marshals, unless there is a hijacking that could have been prevented; in an ordinary flight we don’t notice when they are on the plane, so why would we notice when they are not?  It’s all just a little more grit in the gears for most people.  Is it 2.3% more grit?  Is the pain greater than the cost savings?  I don’t know.  I would guess yes, probably a good deal more. 2.3% increased pain, or even twice that, isn’t Armageddon though.

But the half-percent growth slowdown that is the consensus forecast is just the short run, just this year or next year.  That’s just the loss of demand, and presumably, hopefully, we will recover from that eventually.  But the impact that concerns me most is long run, not short run.  The general Republican urge to make the government small and powerless, so small, as Grover Norquist is famous for saying, that they can “drown it in a bathtub”, means that we are all left with less power to cooperate in investing in long term research, in infrastructure improvements, and in general in providing public goods, or suppressing public bads.  And that can mean lower growth and create more meager prospects not just this year or next year, but forever.   

Republicans in the House are concerned about a few percentage points in the tax code; they would count it a great victory to reduce the top tax rate by, say, 10%.  But if the determined pursuit of reduced taxes also reduces public investment in infrastructure and research, the money they save in lower taxes in the short run would very quickly be overwhelmed by the loss of income growth in the longer run.

At least one real difference between my view and the view being expressed by a lot of the Grover Norquist branch of the Republican party who want to shrink government until they can drown it in a bathtub is that one.  I think there are public investments that matter, and that can increase growth, and that only government is likely to make those investments.  They don't think that, or at least they think that those government investments are displacing private investments that would provide an even bigger return to us.

If they're right, then what just happened hardly matters.  It's only 2.3%, after all.  

If I'm right, then it’s foolish to slash wildly away at government expenditures without considering what future costs are implied by current savings.  The long run costs could be much bigger than the small cost savings that are visible on the surface.