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The Coming Explosion of Federal Spending:

My George Mason colleague Veronique de Rugy has an excellent article on the explosion of federal spending built into the Obama Administration's budget plans for the next decade. As Veronique points out, there will be massive increases in both spending levels and the deficit even under the administration's optimistic projections, which unrealistically assume extremely high rates of economic growth, fail to consider much of the administration's proposed increases in health care spending, and also assume that all of the "temporary" stimulus spending will be completely phased out - despite long experience showing that it is extremely difficult to cut budget items once spending on them has increased. Even the administration's optimistic calculations predict a deficit of $712 billion in 2019 (compared to $455 billion in 2008). The administration also predicts that nonmilitary federal spending will be 17% in 2019, about 15% higher than in 2008 and some 30% higher than in the last year of the Clinton Administration. The Democratic-controlled Congressional Budget Office has reached even more pessimistic conclusions in its analysis, which uses more realistic growth projections.

Back in October, I expressed my fear that the combination of an Obama victory, simultaneous Democratic control of Congress and the executive branch, and the economic crisis, would lead to a massive expansion of government. Sadly, that prediction seems to have been vindicated.

It's true that Obama's spending policies are in some respects a continuation of Bush's. The Bush Administration also presided over massive increases in federal spending and regulation, and I often criticized them for it (e.g. here and here). However, Obama's spending plans far exceed even Bush's dubious record. Justifying Obama's spending proposals by reference to Bush is much like an already obese man claiming that upping his consumption of hamburgers to twenty every day is fine because he spend the last eight years eating ten per day.

Liberal Washington Post economics columnist Robert Samuelson makes some related points in this op ed. Samuelson also considers the clever political strategy behind the Administration's spending policy:

One reason Obama is so popular is that he has promised almost everyone lower taxes and higher spending. Beyond the undeserving who make more than $250,000, 95 percent of "working families" receive a tax cut. Obama would double federal spending for basic research in "key agencies." He wants to build high-speed-rail networks that would require continuous subsidy. Obama can do all this and more by borrowing.

Consider the extra debt as a proxy for political evasion. The president doesn't want to confront Americans with choices between lower spending and higher taxes — or, given the existing deficits, perhaps both less spending and more taxes. Except for talk, Obama hasn't done anything to reduce the expense of retiring baby boomers. He claims to be containing overall health costs, but he's actually proposing more government spending...

Implicitly, the administration is hoping to exploit voters' political ignorance. If voters were well-informed about federal budget and tax policy, they would understand the contradiction between the Administration's plans to massively increase spending and its tax cut promises. At some point, the bill for all that debt will have to be paid in the form of either inflation or massive tax increases that go well beyond "the rich." But since most citizens are "rationally ignorant" about politics, they are likely to be unaware of the problem. Thus, Obama and other politicians can promise massive spending increases while at the same time promising tax cuts, and reap political benefits for doing so. Of course there will be political fallout for whoever is president in 2020 and has to face the resulting serious fiscal crisis. But that is of little concern to today's incumbents, who are understandably focused on their own more immediate political future.

Obama is far from the first political leader to exploit public ignorance. Certainly, the Republicans have used similar tactics in the past, including under the Bush Administration. That fact, however, doesn't make our current situation any better.

UPDATE: It's important to recognize that the gargantuan deficits and looming fiscal crisis likely to result from the Administration's spending plans are just one part of the danger we face. Such massive increases in federal spending also exacerbate the more general problems caused by expanding government control over society. In particular, growing federal spending and regulation will make it even more difficult for rationally ignorant voters to impose meaningful democratic control on public policy. And they will provide numerous opportunities for interest groups to exploit the growth of government for their own benefit, at the expense of the general public.

I discuss both these dangers in more detail in the January post linked earlier in this update.

RPT (mail):
"IS:

If voters were well-informed about federal budget and tax policy, they would understand the contradiction between the Administration's plans to massively increase spending and its tax cut promises."

I thought conservative (Reagan/Cheney/Laffer/Moore, et al) dogma taught that tax cuts led to increased revenues and smaller deficits.
5.18.2009 6:33pm
gab:
We already know that "deficits don't matter." Dick Cheney told us and the sainted Ronald Reagan proved it...
5.18.2009 6:37pm
kurt9 (mail):
Really it's no problem. The federal government has something like $40T in assets (e.g. the feds own 85% of Nevada and Arizona) that they can start selling off.
5.18.2009 6:41pm
Ilya Somin:
I thought conservative (Reagan/Cheney/Laffer/Moore, et al) dogma taught that tax cuts led to increased revenues and smaller deficits.

Not when coupled with gargantuan spending increases, they don't. If Cheney or anyone else claimed otherwise, they were wrong. And Reagan certainly didn't say so. He coupled his tax cuts with actual reductions in domestic spending (though smaller ones than he initially promised), and with a reduction in the total burden of federal spending as a percentage of GDP.
5.18.2009 6:42pm
DavidBernstein (mail):
The tea partiers actually seem to understand all this, and the response from the Obama administration is mockery: "Don't they know that they are getting a tax cut?" It's among the most cynical political ploys I've seen lately, though it's really an elaboration of the Bush Administration's playbook of "cut taxes and increase spending at the same time."
5.18.2009 6:45pm
Dilan Esper (mail) (www):
There is nothing wrong and everything right with Keynesian stimulus right now.

But whether that can or should continue depends on whether the economy recovers. If it does, then conservatives / libertarians will be entirely correct in their criticisms if Obama keeps spending like a drunken sailor. If it doesn't, then big deficits are probably inevitable for a significant period of time.

Ilya is also right to call out Bush for his deficits, but it's worth noting that he misses one reason why they were so bad. If you run big deficits during GOOD economic times, it means you end up running gargantuan deficits in bad times. If Bush had continued the Clinton fiscal policies and run surpluses (instead of making the stupid argument that surpluses represented government theft of the people's money in 2000), we would be in a much better position to fight this recession without running up such big deficits.

Finally, it's worth noting that the issue is DEFICITS, not "spending". Spending is only 1/2 the issue, and Bush also caused deficits by recklessly cutting taxes, which may eventually need to be raised to pay for Bush's various big spending programs as well as Obama's.
5.18.2009 6:46pm
geokstr (mail):
The major problem is that our entire economy is addicted to government spending at all levels and that is about to get exponentially worse. To ever cut spending now will cause a huge drop in economic activity that the private market could never make up for fast enough. There is already so much unfunded liability in social security, medicare/medicaid and public employee pensions that it is now absolutely impossible to ever recover through economic growth alone. Add "free" universal health care and it's game over. Even eliminating defense spending entirely won't nearly be enough (maybe that's partly the goal).

Hyperinflation, total economic collapse, or war or some combination of all three may be the only way to kill off enough of the older population to reduce these liabilities to anything close to manageable.

Maybe the escalation of the war with Islam will be the only answer, or the SCOTUS discovering a constitutional duty of the elderly to die.

That or the invention of the replicator.
5.18.2009 6:47pm
Ilya Somin:
it's worth noting that the issue is DEFICITS, not "spending". Spending is only 1/2 the issue, and Bush also caused deficits by recklessly cutting taxes, which may eventually need to be raised to pay for Bush's various big spending programs as well as Obama's.

Deficits are just one part of the problem caused by massive government spending. There are also more general problems caused by expanding the role of government in society.

There is nothing wrong and everything right with Keynesian stimulus right now.

But whether that can or should continue depends on whether the economy recovers. If it does, then conservatives / libertarians will be entirely correct in their criticisms if Obama keeps spending like a drunken sailor. If it doesn't, then big deficits are probably inevitable for a significant period of time.


Obama's own projections call for massively increased spending on through 2019 despite simultaneously projecting healthy (and probably unrealistically high) economic growth during that time. So it's clear that his proposals go far beyond Keynesian stimulus during bad times.
5.18.2009 6:50pm
Guest E:
Are you calling the Post liberal or Robert Samuel liberal? I trust it's the former, because for my money, Samuel is about as honest a broker as you'll find among columnists. He never shows the feigned outrage of a Krugman and has always been critical of politicians on both sides of the aisle that promise things they can't possibly hope to deliver.
5.18.2009 6:51pm
byomtov (mail):
Ilya,

Conservative dogma definitely says that tax cuts increase revenues. Clearly, the effect on deficits depnds on spending levels, but the idea endorsed by any number of prominent conservatives is in fact that tax cuts increase revenues.

I know it's stupid, but it's part of the creed.
5.18.2009 6:52pm
Guest E:
Byomtov,

It would be stupid not to recognize that tax cuts "could" have the effect of increasing revenue. The problem with the Laffer curve isn't so much the concept but the judgment as to where we are on the curve. If you tax income at an 80% marginal rate, it's highly likely you'll see revenues increase with a sharp reduction because you'll increase the incentive to earn. By the same token, a lower capital gains rate can increase revenue (and has) by lowering the transaction costs of buying and selling capital assets.

It doesn't mean that any tax cut will reduce revenue -- that is foolish. But the notion that tax cuts will never lead to revenue increases is just as foolish, because it assumes that tax cuts have zero effect on behavior, which is empirically false.
5.18.2009 6:56pm
Dilan Esper (mail) (www):
Deficits are just one part of the problem caused by massive government spending. There are also more general problems caused by expanding the role of government in society.

This statement has no content. There isn't an "optimal" level of government in society. There are simply particular programs, some good, some bad. We should cut the bad ones, keep the good ones, and perhaps create other programs that would also be good.

And in a recession, expanding the role of government in society-- at least as to safety net and jobs programs-- is inevitable and good. The problem is that in good times, we don't always contract those programs as we should.

Look, I understand that libertarians are skeptical of government programs. That's not news. But there isn't this category of "government" that grows "too big". Is Social Security too big? Medicare? The Defense Department? Each program has its own merits and needs to be evaluated on those merits.

Obama's own projections call for massively increased spending on through 2019 despite simultaneously projecting healthy (and probably unrealistically high) economic growth during that time. So it's clear that his proposals go far beyond Keynesian stimulus during bad times.

I know. And there's a valid criticism on that, tempered by the fact that "out year" predictions tend to be way off.

But as I said, if he follows through and keeps on running big deficits AFTER a recovery, he deserves all the reaming that your side decides to give him.
5.18.2009 6:56pm
Guest E:
Sorry -- I meant to say that not every tax cut will increase revenue at the beginning of the last paragraph above.
5.18.2009 6:57pm
Ilya Somin:
Are you calling the Post liberal or Robert Samuel liberal? I trust it's the former, because for my money, Samuel is about as honest a broker as you'll find among columnists. He never shows the feigned outrage of a Krugman and has always been critical of politicians on both sides of the aisle that promise things they can't possibly hope to deliver.

One can be an "honest" columnist while also being a liberal one.
5.18.2009 7:07pm
Ilya Somin:
This statement has no content. There isn't an "optimal" level of government in society. There are simply particular programs, some good, some bad. We should cut the bad ones, keep the good ones, and perhaps create other programs that would also be good.


I answered this point in some detail in the post linked in the update. Basically, there are common weaknesses of government that cut across a wide range of programs (including political ignorance, interest group exploitation, and the government's relative weaknesses in analyzing information compared to the government).
5.18.2009 7:09pm
Dilan Esper (mail) (www):
I answered this point in some detail in the post linked in the update. Basically, there are common weaknesses of government that cut across a wide range of programs (including political ignorance, interest group exploitation, and the government's relative weaknesses in analyzing information compared to the government).

As there are common weaknesses of leaving certain matters to the private sector.

More importantly, though, even if there are "common weaknesses" to government programs, that's not the same as claiming that there is some optimal level of government or that any growth of government is necessarily bad. If the growth of government occurs in sectors where the weaknesses of the private sector are more pronounced than the weaknesses of government, or where a private sector alternative is not even possible, growth in government can be completely proper.

Further, even wasteful government spending is good during a recession. Keynes famously said that you could spend money on people digging holes and filling them up and that could be an economic stimulus during a downturn.

The absolute size of government isn't an indicator of anything in particular (other than as a temporary stimulus during a recession). Otherwise, we can only talk about particular programs.
5.18.2009 7:13pm
wm13:
Whoa, Dilan Esper! The Bush years were "good times"? I read Kevin Drum every day, and I used to read Paul Krugman three times a week, and not once did I learn that the Bush years were "good times." You should have spoken up then.
5.18.2009 7:15pm
john w. (mail):
There isn't an "optimal" level of government in society.

Sure there is. We may not be able to calculate it quantitatively, but that does not mean that it doesn't exist. The optimum level of government is the level at which the government does only those things (e.g. national defense) that absolutely, positively cannot be satisfactorily carried out by any other social entity (e.g. families, churches, local governments, charities, businesses, etc.).

Off the top of my head, I would estimate that the optimum level for the federal government in the USA is about one-tenth of its present size; i.e. about 2 or 3 percent of GNP -- roughly where it was prior to Woodrow Wilson.
5.18.2009 7:18pm
Perseus (mail):
But since most citizens are "rationally ignorant" about politics, they are likely to be unaware of the problem.

I agree that no one is likely to lose money underestimating the political ignorance of the average American voter, but I think that it's also a case of voters wanting to have their cake and eat it too.

Finally, it's worth noting that the issue is DEFICITS, not "spending".

Au Contraire! As the late Milton Friedman put it,

I am not concerned with deficits in the federal budget at all. I am concerned with the level of the federal budget. I'd rather have a $1 trillion budget with a deficit of $1 trillion, than have a $2 trillion budget that is completely balanced with taxes.
5.18.2009 7:22pm
Ben P:

that absolutely, positively cannot be satisfactorily carried out by any other social entity (e.g. families, churches, local governments, charities, businesses, etc.).


Define Satisfactorially, because that's really the heart of the matter.

Is it as good as the government can do it? 90% as good as the government can do it? 80%? 50%? Not at all?
5.18.2009 7:29pm
Dilan Esper (mail) (www):
Whoa, Dilan Esper! The Bush years were "good times"? I read Kevin Drum every day, and I used to read Paul Krugman three times a week, and not once did I learn that the Bush years were "good times." You should have spoken up then.

Nobody can deny that the economy performed well between 2001 and 2007, especially considering what could have happened after 9/11.

Economic statistics speak for themselves and are nonpartisan. There were booms under Eisenhower, Johnson, Reagan, Clinton, and Bush 43.

The optimum level of government is the level at which the government does only those things (e.g. national defense) that absolutely, positively cannot be satisfactorily carried out by any other social entity (e.g. families, churches, local governments, charities, businesses, etc.).

That ignores that there are some things that the private sector MIGHT be able to do to some extent, but which the government does better. For instance, Medicare is a much better system than the private health care system for senior citizens that preceded it. To pick a more mundane example, it's pretty clear that direct government student loans work better than private sector student loans.

Au Contraire! As the late Milton Friedman put it

Milton Friedman was a great economist, but his opinions on government spending were not supported by any economic theory. They were simply his ideology. (And yes, before you say it, Paul Krugman suffers from this same problem on the left.)
5.18.2009 7:30pm
wooga:

For instance, Medicare is a much better system than the private health care system for senior citizens that preceded it. To pick a more mundane example, it's pretty clear that direct government student loans work better than private sector student loans.


This seems to assume that the test for whether the government should be doing something is whether the government can do a decent job of it. That of course is Obama's expressed formulation for determining the role of the federal government. Call it the "efficiency" test.

I think there should be a "liberty" test before you even get to the "efficiency" question. In other words, the first test should be "will the government taking on this role unnecessarily interfere with individual liberty" (or some similar phrasing). If the answer to the first liberty test is "no," only then should we get to the SECOND test of "efficiency."

I.e., just because the government might be better at planning my retirement savings does not mean that the government SHOULD be planning my retirement savings.
5.18.2009 7:49pm
Dilan Esper (mail) (www):
I think there should be a "liberty" test before you even get to the "efficiency" question. In other words, the first test should be "will the government taking on this role unnecessarily interfere with individual liberty" (or some similar phrasing). If the answer to the first liberty test is "no," only then should we get to the SECOND test of "efficiency." I.e., just because the government might be better at planning my retirement savings does not mean that the government SHOULD be planning my retirement savings.

Well, certainly liberty is important, but all government programs impinge on your liberty by requiring taxation to fund them. So unless there's some particular impingement on your liberty beyond that, there's no particular reason why that should be taken into account in any special way.

And your example shows this. Social Security is not simply a retirement savings scheme-- it is an insurance scheme. It insures against both poverty and disability. It has a mild redistributive function based on those goals. So it isn't infringing on your liberty to plan your own retirement savings; it is rather requiring you to pay a tax to ensure that other retirees (or perhaps yourself) do not end up destitute. And that is a function that the private sector is unable to provide, which is why we have the government do it through taxation.
5.18.2009 7:58pm
Bruce Hayden (mail):
There is nothing wrong and everything right with Keynesian stimulus right now.

But whether that can or should continue depends on whether the economy recovers. If it does, then conservatives / libertarians will be entirely correct in their criticisms if Obama keeps spending like a drunken sailor. If it doesn't, then big deficits are probably inevitable for a significant period of time.
And
And in a recession, expanding the role of government in society-- at least as to safety net and jobs programs-- is inevitable and good. The problem is that in good times, we don't always contract those programs as we should.
We shall see if Keynesian economics works here. My guess is that it isn't, and won't. There are a lot of things that Keynes didn't take into account, or possibly were not as relevant during the heart of the Great Depression, that might, and I think probably will, result in a Keynesian multiplier of well under one.

I am not claiming that no spending programs during a recession can help recover faster, but in this case, all in the name of Keynesian economics, the Obama Administration and the Democratic Congress are, as you note, spending like drunken sailors. Keynes is being used as an excuse for any and all spending and government increases even remotely dreamed about for the last 20 years by the Democrats in charge right now. There was no attempt to tie spending to immediate outlays, but rather, much of the spending will kick in at potentially the worst time, either as the economy recovers, or, worse, be so late as to be counter-cyclical.

But just as bad, the increase in debt, at a level that makes George Bush (43) looking like a miser, extends as far as the eye can see, at a level that is guaranteed to screw up the credit markets, and possibly lose our dollar its place as the world's reserve currency. Throw in the guaranteed inflation, once monetary velocity recovers, and throw in socialized medicine and cap and trade on top, and there is reason to be really scared about the economy right now.
5.18.2009 8:29pm
Bruce Hayden (mail):
And your example shows this. Social Security is not simply a retirement savings scheme-- it is an insurance scheme. It insures against both poverty and disability. It has a mild redistributive function based on those goals. So it isn't infringing on your liberty to plan your own retirement savings; it is rather requiring you to pay a tax to ensure that other retirees (or perhaps yourself) do not end up destitute. And that is a function that the private sector is unable to provide, which is why we have the government do it through taxation.
I think that a better description of it is a a Ponzi scheme masquerading as a forced retirement program, with a welfare program hidden inside.

But, the problem with that is that we can see that we are running out of money in the Ponzi scheme, and the response seems to be to eliminate some of the features that make it plausibly a retirement program, which turns it into a full blown tax and spend welfare system.
5.18.2009 8:32pm
Guest E:
Ilya,

I didn't mean to say that you couldn't be "honest" and liberal, though I admit that the error was my own. What I intended to say about Samuel is that I think he's really just an honest economist who isn't ideological and simply calls people out on dishonesty, whether they are liberal or conservative. If someone had called him a "conservative" columnist, I'd have said the same thing. He doesn't tilt, in my view, to the left or right.

And you still haven't answered the question, Ilya -- do you think Robert Samuelson is "liberal?" I wouldn't describe him as a liberal or conservative, but I'm interested in the notion that you think he's a liberal.
5.18.2009 8:45pm
TyWebb:

It's important to recognize that the gargantuan deficits and looming fiscal crisis likely to result from the Administration's spending plans are just one part of the danger we face. Such massive increases in federal spending also exacerbate the more general problems caused by expanding government control over society. In particular, growing federal spending and regulation will make it even more difficult for rationally ignorant voters to impose meaningful democratic control on public policy. And they will provide numerous opportunities for interest groups to exploit the growth of government for their own benefit, at the expense of the general public.

I wonder if another Conspirator will take this opportunity to mock Prof. Somin's arrogant self-citation.
5.18.2009 8:47pm
Perseus (mail):
Milton Friedman was a great economist, but his opinions on government spending were not supported by any economic theory.

While there may not be any a prior overall level at which government spending is necessarily unproductive, the general theory is that less productive government spending usually ends up crowding out more productive private spending. And there are plenty of ways of trying to go about testing the theory (e.g., comparing the percentage of GDP taken by government spending and economic growth rates).

Social Security is not simply a retirement savings scheme-- it is an insurance scheme.

It's really only insurance if you think that retirement is an unforeseen event in life. If it were true insurance, it would only pay out if you ran out of money during retirement (e.g., because you lived longer than expected). But Social Security is most definitely a (Ponzi) scheme.
5.18.2009 8:50pm
Dilan Esper (mail) (www):
I think that a better description of it is a a Ponzi scheme masquerading as a forced retirement program, with a welfare program hidden inside. But, the problem with that is that we can see that we are running out of money in the Ponzi scheme, and the response seems to be to eliminate some of the features that make it plausibly a retirement program, which turns it into a full blown tax and spend welfare system.

Social Security is perfectly solvent for decades into the future. And with some minor adjustments, it can be solvent even longer.

Yes, it has elements of Ponzi schemes in it. But a Ponzi scheme actually works perfectly well in a wealthy country where everyone is required to participate and the returns that are guaranteed are modest.

Keynes is being used as an excuse for any and all spending and government increases even remotely dreamed about for the last 20 years by the Democrats in charge right now.

It is inevitable that the programs that will be used as "stimulus" will be those that the majority had wanted to pass for years. Bush 43 did the same thing with his tax cuts in 2001.

But as I said above, you are right that the long-term implications of what Obama is doing are quite troublesome, and if he doesn't ratchet this stuff down after we pull out of the recession, it would be highly irresponsible. (Bush, of course, didn't ratchet his tax cuts down after his recession either, but instead irresponsibly tried to make them permanent.)
5.18.2009 8:51pm
Bruce Hayden (mail):
I didn't mean to say that you couldn't be "honest" and liberal, though I admit that the error was my own. What I intended to say about Samuel is that I think he's really just an honest economist who isn't ideological and simply calls people out on dishonesty, whether they are liberal or conservative. If someone had called him a "conservative" columnist, I'd have said the same thing. He doesn't tilt, in my view, to the left or right.
I, along with many here, have read him over the years, and my feelings about his positions were that he was a little to the left of center. Maybe not far enough to call him a liberal, but still left of center (but probably to the right of the center in academia). But then, I, along with all here, look at things from my own subjective perspective, and mine is a bit to the right.
5.18.2009 8:52pm
Dilan Esper (mail) (www):
While there may not be any a prior overall level at which government spending is necessarily unproductive, the general theory is that less productive government spending usually ends up crowding out more productive private spending.

There's no economic principle that says that government SPENDING crowds out private sector spending.

Rather, the theory is that government BORROWING crowds out private sector borrowing by increasing long term interest rates. You'd have the same effect if you cut taxes too much as you would if you spent too much.

And that is a problem if Obama doesn't tap on the brakes when the recession is over. But it is not a problem during a recession when demand for capital in the private sector is down anyway.
5.18.2009 8:53pm
Bruce Hayden (mail):
Yes, it has elements of Ponzi schemes in it. But a Ponzi scheme actually works perfectly well in a wealthy country where everyone is required to participate and the returns that are guaranteed are modest.
Maybe, if the number of tax payers were at least stable, and even better if it were expanding, in relation to the beneficiaries. But the ratio is running in the other direction, with fewer and fewer paying in, in relation to those getting benefits.
It is inevitable that the programs that will be used as "stimulus" will be those that the majority had wanted to pass for years. Bush 43 did the same thing with his tax cuts in 2001.
Except one is tax cuts and the other is spending increases. Also, the magnitude is very different. Plus, the Bush tax cuts were technically "revenue neutral" (and, yes, there was a bit of slight of hand to make that work - but the revenue neutrality presupposed static accounting in the first place). There has been no attempt to even pretend that the Obama spending increases were anything close to revenue neutral (though we do see him trying to make the case that his socialized medicine program will be paid for by savings generated by the program).

Let me suggest though that whenever George W. Bush is brought into the equation here, that one massive difference here is the difference in magnitude between them, and, in particular, their deficits. Best estimates right now seem to have this year's deficit about 4x Bush's last one. And it doesn't get much better for the next decade, with borrowing on the level not seen since the last year of WWII.
5.18.2009 9:00pm
byomtov (mail):
It would be stupid not to recognize that tax cuts "could" have the effect of increasing revenue. The problem with the Laffer curve isn't so much the concept but the judgment as to where we are on the curve.

Well, they could. But they don't at any reasonable level of taxation. The practical problem is that conservatives seem to think that tax reductions always increase revenues. The theoretical problem is that no on knows where the max of the curve is, or indeed if it has only one max, or if it's fairly level over a large range, or lots of other things.

In other words, while there is some chance of the religious belief being true at some point, the fact is it's total BS in real life.

Not that ever stopped the Republicans.
5.18.2009 9:12pm
Bruce Hayden (mail):
There's no economic principle that says that government SPENDING crowds out private sector spending.

Rather, the theory is that government BORROWING crowds out private sector borrowing by increasing long term interest rates. You'd have the same effect if you cut taxes too much as you would if you spent too much.
Not exactly. You are almost presupposing that income tax rates have no bearing on economic activity and resulting tax revenues, and that is demonstrably false.

Think about it statically first. Assume that there is X amount that the government and the private sector can spend. Then, if the government spends more, the private sector can spend less. If taxes go up to cover that government spending, then private spending goes down. But, that assumes that the size of next year's combined pie is the same, regardless of the spending between government and the private sector. And, that implies that the government can create wealth as well as the private sector can. I don't think there is any evidence that it really can.

Then, you throw in borrowing. Sure, for this year, the government can spend more, if it borrows it. But that bill ultimately comes due. The interest needs to be paid and the debt eventually paid off (or, more realistically, rolled over). This may work for awhile, and if it is done in moderation. But we aren't talking moderation here. Rather, we are talking a situation where the interest on the national debt may approach half the budget by the end of the next ten years, at the projected rate of spending and borrowing - without taking into consideration that borrowing makes sense economically if it can be done for near zero interest. That is unlikely to last, with the massive volume of debt involved. And that doesn't even start to take into consideration what that crowding out will do to the private debt market, and all the jobs that will be lost because companies are invariably going to have to pay even more than our government will, to borrow to build plants, etc. Oh, and then there is the pesky little problem of inflation from all that debt.

As has been said many times, if you extend Keynesian economics to its natural conclusion, then you could get out of a recession by hiring people to bury money in their backyards. But it won't, because that crowds out them working to build products and provide services to others that increase GDP.

Yes, borrowing a bit from the future to spend money now may help get out of a recession a bit faster. Because that government spending is not really crowding out private spending. But when you set yourself up to borrow at those levels as far as your eyes can see, then private spending will be crowded out. Not now, but soon.
5.18.2009 9:18pm
Dilan Esper (mail) (www):
But the ratio is running in the other direction, with fewer and fewer paying in, in relation to those getting benefits.

Well, not enough to matter. As I said, it's solvent for decades and can be made solvent for a longer period with some minor adjustments.

Except one is tax cuts and the other is spending increases.

Economically, there's no difference, other than transaction costs, between cutting taxes and creating a new government program that mails a check to every taxpayer for the same amount.

Tax cuts and government spending are identical from an economic standpoint.

Now people have POLITICAL or IDEOLOGICAL reasons for favoring one over the other, but there's no economic difference between the two.

Plus, the Bush tax cuts were technically "revenue neutral" (and, yes, there was a bit of slight of hand to make that work - but the revenue neutrality presupposed static accounting in the first place).

That wasn't true to begin with and it especially wasn't true in the way they were structured; the idea was they would pass them and then put political pressure on Congress to extend them and make them permanent. There was no revenue neutrality in that strategy.

Let me suggest though that whenever George W. Bush is brought into the equation here, that one massive difference here is the difference in magnitude between them, and, in particular, their deficits. Best estimates right now seem to have this year's deficit about 4x Bush's last one.

If Obama continues spending this way and doesn't raise the taxes to pay for it, it's a perfectly legitimate criticism. But first, we need to get out of the recession. Keynesian stimulus during a recession is entirely justified.
5.18.2009 9:18pm
wyswyg:

Tax cuts and government spending are identical from an economic standpoint.



Ahh, liberalsm in a nutshell. I think you'll have a hard time finding even a liberal economist who will buy into that particular notion though.

From an economic persepctive, tax cuts and government spending are two opposite things.
5.18.2009 9:37pm
wyswyg:

Economically, there's no difference, other than transaction costs, between cutting taxes and creating a new government program that mails a check to every taxpayer for the same amount.



There is a huge difference. Most of the "taxpayers" the government mails those checks to are not actually taxpayers. A second huge difference is that government programs do not, alas, simply mail checks to people. Government spends all that money on make-work projects, that "dig-a-hole-and-fill-it-up-again" stuff you praised Keynes for. And the problem THERE is that government is a shockingly bad judge at allocating capital. Or any resources for that matter.
5.18.2009 9:43pm
geokstr (mail):

Dilan Esper:
Social Security is perfectly solvent for decades into the future. And with some minor adjustments, it can be solvent even longer.

I suppose you think it is "perfectly solvent" because of the fraudulent "trust fund lockbox" that is full of worthless paper I.O.U.s. Those I.O.U.s are from us, and we will have to make good on them from general tax receipts and/or sign ever larger I.O.U.s every year starting in the very near future. It is totally unsustainable. Period. The debate is over. Might as well believe the holocaust never happened.

There is no "money" in it, no "investments". There is a surplus of current reciepts over outlays but that will no longer be true in just a few years. But even that is a fraud, because the budget sucks up that surplus for general outlays, and has for decades, and there is still a massive deficit to be covered.

As someone already noted, perhaps this could work in a society with an ever growing population, but our reproductive rate is hovering at bare minimum replacement rate and will probably drop like Europe's already has.

The ugly elephant in the room is that abortion has cost us over 50 million tax-paying legal citizens since Roe, and we can't replace them with uneducated illegals or Muslims who don't care for our form of government. Good thing we made it convenient for everybody to screw everybody else without consequences for 50 years. This is literally demographic suicide.

Someone above apologizes for implying that liberals are dishonest. However, when it comes to social security and medicare/medicaid, saying they are merely self-deluded would be way, way too charitable.
5.18.2009 9:44pm
wyswyg:

The practical problem is that conservatives seem to think that tax reductions always increase revenues.



The practical problem is that byomtov knows about conservatives only whatever nonsense about them he has read at The Nation.

if you are interested in what conservatives think, I suggest you ask them. Failing that, try to restrain yourself from mouthing off on the topic.
5.18.2009 9:46pm
ReaderY:
Truth be told, the last president didn't want to confront Americans with choices either.
5.18.2009 10:01pm
Psalm91 (mail):
wyswyg:

Wouldn't you call this a conservative blog? Isn't Ilya, Bernstein, Lindgren, Kopel, et al telling us what conservatives think?
5.18.2009 10:10pm
Perseus (mail):
There's no economic principle that says that government SPENDING crowds out private sector spending.

Rather, the theory is that government BORROWING crowds out private sector borrowing by increasing long term interest rates.


Then I guess my old macroeconomics textbook (by Robert J. Barro) is wrong:

Consider a temporary increase in government purchases... We know that government purchases rise. But private uses of output--for consumption and investment--decline. Consumption demand falls for two reasons. First, there is a substitution of public services for private spending. ...Second, the higher real interest rate induces people to postpone their expenditures. This second effect accounts for the drop in investment demand. Notice that the increase in government purchases crowds out private spending. Because of the higher real interest rate and the direct substitution of public services for consumer spending, the addition to government purchases induces consumers and investors to spend less.

Note also that the above model assumes that public services are productive. If they are not, or if there is a large gap between the productivity of government services and private services, then the crowding out effect will be commensurately larger.
5.18.2009 10:24pm
Guest E:
I suspect that the nearly confiscatory tax rates during the Kennedy years and the very top rates Reagan reduced after he first came into office had a revenue producing effect, so it isn't as theoretical as you imagine. And we'll see soon enough if Britain and others find out the hard way.

That said, I doubt a reduction from 39% to 35% would cause a revenue increase. In the early 1990s, we had increases in revenue after a rise from 35 to 39% and in the 2000s, we had an increase in revenues when the 39 was dropped to 35%. I don't read that as "taxes are irrelevant" but that changes at that level don't overwhelm other macroeconomic forces.

I'm amused, though, at how many people minimize the role that risk-taking plays in a dynamic economy and just assume, apparently, that such risk-taking won't be affected by tax rates. I suspect that many of those who make that assumption have little experience in that arena.

Additionally, the issue is as much a moral one as it is an economic one: at what level does a "progressive" tax become a confiscatory taking? The answer to that isn't based on the Laffer Curve, it's based on your view of individualism and private property rights. If you trend toward egalitarianism and collectivism, you will have a high threshold for such taxes; if you favor individualism and robust property rights, you will oppose higher marginal rates.
5.18.2009 10:48pm
Stevie Miller (mail):
Sadly, that prediction seems to have been vindicated.

Very nice post.
But a quibble?

A prediction is fulfilled, not vindicated.

If someone had accused you of being wrong about your predictions, the truth might have vindicated you.

But I think you meant here that your prediction seems to have been fulfilled (sadly).

Good post.
5.18.2009 11:40pm
Ricardo (mail):
I read Kevin Drum every day, and I used to read Paul Krugman three times a week, and not once did I learn that the Bush years were "good times."

Before playing gotcha games, it helps to understand your opponents' arguments. I don't read Drum, but as far as Krugman is concerned, his argument about the Bush years was:

GDP growth and average wage growth were strong but this masks the fact that the gains of those years were very unequally distributed and were concentrated in the top income quintiles and also in the real estate and finance sectors. Median real wages were nothing to brag about and the labor force participation rate among working age men was decreasing -- usually a sign of people giving up on the hope of finding a job.

So the argument was that the government should not be taking on debt in order to finance a party for those at the top of the income distribution. In this situation, the government could have rolled back the tax cuts on the highest earners in order to pay for Bush's spending without huge adverse economic consequences. Since we entered into recession last year though, tax increases become much more problematic.
5.19.2009 12:11am
Josh644 (mail):
The administration also predicts that nonmilitary federal spending will be 17% in 2019...

This sentence is mighty confusing at first glance. It would be better if "of the GDP" were added.

I'm not clear on the purpose of excluding military spending from the analysis. Spending is spending; when the feds allocate goods and services, they make them unavailable to the people, and inevitably waste far more than private parties would. Military spending is obviously no exception.
5.19.2009 3:20am
Spitball:
Ricardo --

You do correctly point out Krugman's argument about the Bush years, but his analysis -- at least in his columns in the NYT -- is tendentious and often disingenuous.

He condemns the rising inequality (or more accurately, the fact that the rich's income rose at a faster pace than the poor's income) of the Bush years, but doesn't point out that this trend has been occurring since the 1970's. Nor does he point out that recent large influx of less educated immigrants has had the effect of depressing the median wage (though one hopes that their children will be upwardly mobile and help narrow the income gap). And of course he doesn't point out the few surplus years in the late 1990s were recent historical anomalies (e.g., the end of the Cold War meant that defense spending preciptiously declined from a mean of about 8 percent of the GDP during the Cold War period to 3 percent in 1998; the dot.com bubble added huge amounts of capital gains tax revenue).

As NYT's Public Editor Dan Okrent put it in his last ombudsman column, "Op-Ed columnist Paul Krugman has the disturbing habit of shaping, slicing and selectively citing numbers in a fashion that pleases his acolytes but leaves him open to substantive assaults."
5.19.2009 3:24am
GaryC (mail):
Dilan Esper:

Social Security is perfectly solvent for decades into the future. And with some minor adjustments, it can be solvent even longer.

Yes, it has elements of Ponzi schemes in it. But a Ponzi scheme actually works perfectly well in a wealthy country where everyone is required to participate and the returns that are guaranteed are modest.

The returns that current participants, especially young ones, are being promised is certainly modest. Even negative. But the first generation to receive payouts made out like bandits. Ida Mae Fuller is famous for receiving over $22,000 in payments after contributing a lifetime total of $22.
5.19.2009 6:12am
Ricardo (mail):
He condemns the rising inequality (or more accurately, the fact that the rich's income rose at a faster pace than the poor's income) of the Bush years, but doesn't point out that this trend has been occurring since the 1970's.

I was in a bookstore less than one week ago and saw Krugman's book "The Conscience of a Liberal" -- I decided to pick it up and read the summary on the dust jacket and there, in plain English, it says the purpose of the book is to explain why inequality has been rising for the past 30 years. I don't know where your information is coming from and this isn't an obscure book.

In any case, this isn't an argument about Krugman. It is an argument about whether the economy during the Bush years was strong enough to increase taxes (or just not cut taxes) and whether various liberals who were bearish on the economy under Bush thought the economy was strong enough for this. The answers to these are yes and yes.
5.19.2009 6:34am
Gilbert (mail):
Chalking up political support for Obama's proposals to rational ignorance is dismissive. Given that this nation has certain infrastructure projects that will have to be undertaken eventually, I would prefer to borrow the money today, when interest rates are as low as they will ever get, than during the boom times.
5.19.2009 7:03am
byomtov (mail):
The practical problem is that byomtov knows about conservatives only whatever nonsense about them he has read at The Nation.

if you are interested in what conservatives think, I suggest you ask them. Failing that, try to restrain yourself from mouthing off on the topic.


No conservatives here, none at NRO, or the WSJ? No conservative politicians making speeches? I understand that you find lots of what conservatives think embarrassing, but that doesn't mean they don't think it.
5.19.2009 9:33am
Desiderius:
Ilya,

How bad do things have to get before the ignorance is no longer rational, in your estimation?
5.19.2009 10:13am
Desiderius:
"As NYT's Public Editor Dan Okrent put it in his last ombudsman column, "Op-Ed columnist Paul Krugman has the disturbing habit of shaping, slicing and selectively citing numbers in a fashion that pleases his acolytes but leaves him open to substantive assaults.""

Reading Krugman on the present administration, it becoming increasingly clear that his problem wasn't so much Bush Derangement Syndrome as People With More Power Than Paul Krugman Derangement Syndrome.

Which I can identify with, so maybe he'll be readable again.
5.19.2009 10:58am
Dilan Esper (mail) (www):
Then I guess my old macroeconomics textbook (by Robert J. Barro) is wrong: Consider a temporary increase in government purchases... We know that government purchases rise. But private uses of output--for consumption and investment--decline. Consumption demand falls for two reasons. First, there is a substitution of public services for private spending. ...Second, the higher real interest rate induces people to postpone their expenditures

The higher real interest rate comes from government borrowing (i.e., government competition for capital). If the government doesn't borrow-- i.e., if it raises the revenue that it spends-- no investment is crowded out.
5.19.2009 1:40pm
Dilan Esper (mail) (www):
From an economic persepctive, tax cuts and government spending are two opposite things.

From an economic perspective, a tax cut is EXACTLY THE SAME as creating a government office that mails checks out to each taxpayer in the amount of the "tax cut", except for the transaction cost.

Conservatives refuse to admit this, but it is completely true. Government spending and tax cuts are the same thing-- indeed, many government programs are structured as tax cuts that could just as easily be structured as spending programs and have the same economic effect. (E.g., the health insurance deduction.)
5.19.2009 1:44pm
Dilan Esper (mail) (www):
By the way, I want to thank geokstr, whose rant about Social Security and abortion is just about the perfect exemplar of nutty, paranoid conservative thinking about these issues.
5.19.2009 2:29pm
ys:

Gilbert (mail):
Chalking up political support for Obama's proposals to rational ignorance is dismissive. Given that this nation has certain infrastructure projects that will have to be undertaken eventually, I would prefer to borrow the money today, when interest rates are as low as they will ever get, than during the boom times.

Good point! Just about a week ago I noticed that several highways I travel on every day, have been reduced to one lane for several hours every day. After a few days of guessing, a big permanent-looking sign went up proclaiming thanks to the recovery act for these "shovel ready" projects. In fairness, these same highways underwent shovels probably 5 times in the last 6 years already, but who [in DC] counts?

Greetings from the land of the Big Dig
5.19.2009 2:53pm
Harry O (mail):
"There is nothing wrong and everything right with Keynesian stimulus right now."

Dilan: I had to read some of the original Keynesian writings back in college, many many years ago. I have not seen a single instance of it being used since then. What he said was that the government should deficit spend during a recession and spend LESS during boom times (thus building up a surplus to be spent during lean times). The government was supposed to "smooth out the bumps" in the economy by opposing BOTH high and low swings.

Have you (or anyone else who posts here) ever seen any politician doing the second part of his plan? All I have seen (with both parties) is the first part.
5.19.2009 4:28pm
Dilan Esper (mail) (www):
I had to read some of the original Keynesian writings back in college, many many years ago. I have not seen a single instance of it being used since then. What he said was that the government should deficit spend during a recession and spend LESS during boom times (thus building up a surplus to be spent during lean times).

Not so much "spend" less-- he wanted the government to run SURPLUSES (i.e., tax more and spend less) in good times.

The best I can say is the Clinton and Eisenhower fiscal policies approximated Keynes' ideal of being fiscally responsible during good times.
5.19.2009 5:11pm
geokstr (mail):

Dilan Esper:
By the way, I want to thank geokstr, whose rant about Social Security and abortion is just about the perfect exemplar of nutty, paranoid conservative thinking about these issues.

Yes, I know, you libs never like to fess up to the unintended consequences of your own nanny state philosophy. Laugh all you want, I'll collect on Social Security. If you are under 55 or so, forget about it. But you will be able to get your lawn maintained cheaply.
5.19.2009 7:55pm
Raoul (mail):
The article is very deceitful. The so call tax cuts are de minimis and temporary- I wish a conservative could write without lying since the issue of deficits needs to be addressed. In the long term, after the stimulus takes effect, what matters is the rate of economic growth versus percentage deficit growth.
5.20.2009 12:02am
Perseus (mail):
The higher real interest rate comes from government borrowing (i.e., government competition for capital). If the government doesn't borrow-- i.e., if it raises the revenue that it spends-- no investment is crowded out.

1) You changed the analysis to focus exclusively on investment.

2) Regardless, in the neoclassical model that Barro uses, the higher real interest rate has NOTHING to do with government deficits since this particular example assumes that the increase in government purchases is financed by increased real taxes. So I suggest that you take a refresher course in macroeconomics before making a claim like:

There's no economic principle that says that government SPENDING crowds out private sector spending.
5.20.2009 3:33am
Dilan Esper (mail) (www):
Perseus, let's go through this slowly. Barro identifies 2 forms of crowding out:

First, there is a substitution of public services for private spending. ...Second, the higher real interest rate induces people to postpone their expenditures.

The first is a wash if the spending is supported by higher taxes. The government spends more, the private sector spends less, because that money is taken out of the economy through taxation. But that's not "crowding out of investment" in the traditional sense-- that's just the Keynesian argument that tax increases, just like spending cuts, reduce total output.

But if the spending is supported by deficits, the first effect won't create any reduction in investment, because there is no tax increase to reduce total output.

Instead, in the case of deficits, crowding out can occur under the second prong of your statement. Because deficits increase competition for capital and drive up interest rates. But note that THIS effect doesn't happen unless there are deficits. If the government raises the taxes to pay for its spending, it doesn't borrow, and the lending markets are unaffected.

Bottom line, taxes decrease output directly, while deficits don't, but they may decrease output indirectly by crowding out investment. But spending cuts also decrease output directly as well.

There's nothing magical about spending that distinguishes it from tax cuts.
5.20.2009 2:31pm
Perseus (mail):
Instead, in the case of deficits, crowding out can occur under the second prong of your statement.

But the textbook example supposes no government deficit: "let's think of the extra [government] purchases as financed by more real taxes." Note that the increased taxes (equal to the amount of government purchases) occur in the same--not future--time period as the increased government purchases (also note that these are government purchases of goods and services, not transfers). The increase in the interest rate occurs because aggregate demand for goods and services increases more than aggregate supply, not increased government borrowing.


What you are describing is a different case, which is standard economic theory that rejects "Ricardian equivalence." To wit, government runs a deficit (which can occur simply by cutting taxes and holding government spending constant) and households in aggregate do NOT increase their saving by an equivalent amount (plus interest) to offset the implied future tax liability to pay off the debt (as would happen with Ricardian equivalence). Therefore, the government is competing with the private sector for the same pool of loanable funds, which results in a higher real interest rate and crowding out.
5.20.2009 5:31pm
Dilan Esper (mail) (www):
Perseus:

If government spending is funded by government taxation, AGGREGATE demand does not increase at all-- private demand decreases (due to the effect of taxation pulling money out of the hands of private citizens) while government demand increases.

You can't get an increase in interest rates unless the government borrows the money and thus increases the demand for money, resulting in a price (long term interest rate) increase. But if the spending is fully paid for, there is no change in aggregate demand and thus no increase in interest rates.

And you haven't addressed my point that what is true for spending is equally true for tax cuts.
5.20.2009 6:46pm
Perseus (mail):
If government spending is funded by government taxation, AGGREGATE demand does not increase at all-- private demand decreases (due to the effect of taxation pulling money out of the hands of private citizens) while government demand increases.

Private demand would decrease one-for-one with the tax increase basically only if people had no other income to spend (e.g., no savings). If you assume a permanent income (or life-cycle) hypothesis, then people will tend to smooth their consumption over time, which means that it is unlikely that they will decrease their consumption and investment one-for-one with the tax increase. Thus aggregate demand will in fact increase with a temporary increase in government purchases fully funded by a tax increase. Once again, it is this increase in aggregate demand that results in a higher interest rate, not government borrowing.

And you haven't addressed my point that what is true for spending is equally true for tax cuts.

It is not equally true unless you assume that private spending and government purchases are perfect substitutes.
5.20.2009 8:59pm
Dilan Esper (mail) (www):
Private demand would decrease one-for-one with the tax increase basically only if people had no other income to spend (e.g., no savings). If you assume a permanent income (or life-cycle) hypothesis, then people will tend to smooth their consumption over time, which means that it is unlikely that they will decrease their consumption and investment one-for-one with the tax increase.

The problem is nobody knows if this is true. There's too many variables to control in order to try to figure out whether people decrease their spending and investment if tax rates go up.

I should mention though, that if they do not, then it would undermine many conservative rationales about tax cuts as well.

It is not equally true unless you assume that private spending and government purchases are perfect substitutes.

It's equally true because any spending program can be structued as a tax cut and vice-versa. The only difference is transaction costs.

In other words, if you got rid of the mortgage interest deduction and instead mailed a check to every mortgage holder in the country, how could that POSSIBLY affect the macroeconomy? Conservatives who like demonizing spending cuts have no explanation for this.
5.20.2009 9:58pm
Dilan Esper (mail) (www):
One other thing I might add about this. If the hypothesis is that people will the same amount of money even if you raise their taxes, the implications of that would be that all the Republican and conservative rhetoric about the anti-growth affects of tax increases would have to be false, right?

In the end, I can buy a hypothesis that says that people don't necessarily reduce spending on a one-to-one basis with tax increases (or cut their spending on a one-to-one basis with tax cuts). But the idea that it doesn't affect spending at all is ludicrious-- all you need is for SOME people to change their expenditures and the "permanent income hypothesis" is false.

This is all about making arguments in only one direction, to try and subvert liberal political goals.
5.20.2009 10:03pm
Perseus (mail):
In the end, I can buy a hypothesis that says that people don't necessarily reduce spending on a one-to-one basis with tax increases (or cut their spending on a one-to-one basis with tax cuts). But the idea that it doesn't affect spending at all is ludicrious-- all you need is for SOME people to change their expenditures and the "permanent income hypothesis" is false.

The permanent income hypothesis does not necessarily imply that consumption will not change at all, only that consumption will not decrease on a one-for-one basis.

This is all about making arguments in only one direction, to try and subvert liberal political goals.

That is gross exaggeration. I also made technical arguments against dubious economic claims of yours such as:

There's no economic principle that says that government SPENDING crowds out private sector spending.

You can't get an increase in interest rates unless the government borrows the money and thus increases the demand for money, resulting in a price (long term interest rate) increase

If government spending is funded by government taxation, AGGREGATE demand does not increase at all-- private demand decreases (due to the effect of taxation pulling money out of the hands of private citizens) while government demand increases. (I'd note that this last argument is ANTI-Keynesian--and therefore presumably anti-liberal--since in the Neo-Keynesian model, the effects of a temporary increase in government purchases fully financed with a tax increase will magnify the increase in aggregate demand and total economic output because of the "multiplier effect" that is absent from the neoclassical model.)

So, it's not just about ideology: it's also about making sound arguments about basic economic theory.
5.21.2009 1:08am
Dilan Esper (mail) (www):
The multiplier effect is a different issue. There are legitimate debates about whether the DOWNSTREAM effects of private and public spending are different-- although, again, for that analysis A TAX CUT IS THE SAME AS AN EQUIVALENT SPENDING INCREASE.

But if your claim is only that there may be small "permanent income" effects on the margins, sure, there may be. But if it's on the margins, it really isn't going to cause any significant increase in interest rates.

For interest rates to increase, you really need the vast majority of Americans to not change their spending habits at all in response to a tax increase. And not only is there no evidence of that, but if it were true, then it would invalidate most conservative economic arguments on taxation as well as liberal ones.
5.21.2009 1:41pm
Perseus (mail):
For interest rates to increase, you really need the vast majority of Americans to not change their spending habits at all in response to a tax increase.

For interest rates NOT to increase with a temporary increase in government purchases, you need the vast majority of people to reduce their private spending by the amount of the increase. Measuring effects as an empirical matter is difficult because the effects are different depending on whether the government purchases and the tax increase are perceived as temporary or permanent (and what the government spends the money on, which types of taxes are altered, and, of course, the amount of the government spending and/or tax increase), but economists do attempt to measure them.

Whether the changes in behavior or interest rates are "significant" by your definition is a different matter, and adding that qualifier changes your initial emphatic claims that "there's no economic principle that says that government SPENDING crowds out private sector spending," that "you can't get an increase in interest rates unless the government borrows the money," that, "AGGREGATE demand does not increase at all," etc.

The broader point is that your economic analysis simply doesn't pass muster.
5.21.2009 3:06pm
Dilan Esper (mail) (www):
For interest rates NOT to increase with a temporary increase in government purchases, you need the vast majority of people to reduce their private spending by the amount of the increase.

Not at all. You need a pretty significant increase in demand for money to trigger a rise in long-term interest rates. This is why most of the time-- as economists admit-- the crowding out of investment effect doesn't happen during times of moderate deficit spending.

Measuring effects as an empirical matter is difficult because the effects are different depending on whether the government purchases and the tax increase are perceived as temporary or permanent (and what the government spends the money on, which types of taxes are altered, and, of course, the amount of the government spending and/or tax increase), but economists do attempt to measure them.

Actually, the permanent income hypothesis is basically impossible to test, because there are so many other variables that cannot be controlled for.

But that doesn't mean it isn't ideologically convenient.

And what you keep ignoring is that tax cuts are exactly the same as spending increases. In other words, there's no reason in the world that the the macroeconomic effects of mailing a check to every mortgage interest payer would be any different than cutting each payer's taxes by a like amount.

In other words, there's simply nothing magical about government spending except that conservatives don't like it (except when they do).
5.21.2009 4:48pm
Dilan Esper (mail) (www):
I should add one more thing for people who might be viewing this thread and may not realize this.

The Permanent Income Hypothesis was formulated by Milton Friedman, who despite being a great economist was also an ideologue who hated government spending.

It was clearly something he would LIKE to be true. But there's no way to know if it was true and plenty of reason to think that it was only true on the margins.
5.21.2009 4:51pm

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