Sunday, June 26, 2011

Why can't we cut our way to prosperity?



In his weekly radio address today, President Obama said, in regard to the upcoming talks he will be having with Congressional leaders over reviving the stalled budget negotiations, "we can't simply cut our way to prosperity."

He might do well to consider the record of the Clinton administration. As these charts show, federal spending as a % of GDP fell 4 percentage points—from 22% to 18%—during the 1993-2000 period, thanks mainly to 8 years of very low spending growth: 3.1% on average. During that same period, real GDP grew at an annualized rate of 3.8% per year, well above its long-term 3.1% per year average, and the unemployment rate fell from 7.4% to 3.9%.

During that same period, rising prosperity resulted in a surge of federal tax receipts, which rose from 17% of GDP to 20%, as revenue growth averaged 7.8% per year. The combination of very slow spending growth and a strong economy reduced the budget deficit from 5% of GDP to a surplus of 2.5% of GDP. And thanks to the combination of strong growth and tight monetary policy, the dollar rose 20% during this period, further boosting confidence and investment.

The hallmarks of policy during the 1993-2000 period are exactly what we need today: 1) sharply curtailed spending growth and 2) tighter monetary policy. It's not a coincidence that explosive spending growth and easy money have given us the slowest recovery on record. Moral of the story: you can't simply spend your way to prosperity.

UPDATE: To expand on this most important of themes: You can't spend or print your way to prosperity; prosperity comes only from hard work and productive investments. Government doesn't know how to do either very well, since it lacks the profit motive, and politicians have the luxury of spending other peoples' money instead of their own. Printing money doesn't create prosperity because it only fosters speculation and destroys confidence in the value of a currency. The worst thing about policies of the past several years (including the Bush administration) has been the reliance on policies (e.g., lots of government spending and easy money) that don't make any sense, but which sound good because they supposedly put the politicians and the bureaucrats in charge of pulling the economy out of a slump that they themselves (of course) were responsible for creating. The Keynesian belief that politicians and bureaucrats can pull spending and money levers and thus turn around the economy have once again been totally discredited. How long will it take before we as a country learn this lesson?

7 comments:

Benjamin said...

By all means federal spending should be cut.

Read this passage, in today's LA Times, written by a GOP staffer:

"Consider the two signature GOP policies of George W. Bush's presidency: the wars and the tax cuts. Including debt service costs, Bush's wars have cost about $1.7 trillion to date. Additionally, as part of being "a nation at war," the Pentagon has spent about $1 trillion more than was expected in the last decade on things other than direct war costs, which has been a bonanza for military contractors but a disaster for the federal budget. And finally, there has been another trillion dollars spent domestically in response to 9/11, including spending on such things as establishing the Homeland Security Department and increasing the budgets for the State Department and the Veterans Administration."

Add it up: $4.7 trillion in spending to response to 9/11, an attack by a stateless, small, informal group of religious fanatics and misfits, largely Saudi Arabians. Never even a minor military threat. And we still can't extricate ourselves from Iraq or Afghanistan (let alone Libya). Taxpayers will be cutting checks for a long time, and well into the future (decades) for veteran's benefits.

I can't fathom why this military Niagara of spending--the textbook case of throwing money at a problem--is never cited in why we have run big deficits ever since. It is simply verboten to mention this Mt. Everest of IOUs when discussing fiscal policy.

No one seems to notice that cuts are proposed in programs where money is actually returned to taxpayers--such as Social Security--but not in programs that siphon the money out of the private sector, and into the bottomless federal agencies and all the grifter-lobbyists attached thereto.

As for monetary policy, I fear we are becoming the United States of Japan: Big fiscal deficits, and low interest rates, leading to perma-recession, and 80 percent reductions in equity and property values.

Bernanke, John Taylor and Milton Friedman all advIsed Japan to go to QE until you saw some real inflation. They never stuck with it. They are becoming a backwater nation, and they may never have to worry about inflation again. What an achievement for the Bank of Japan: Permanent bouts of deflation and stagnation.

The biggest threat to American prosperity and security today? Us. We have met the enemy and he is us.

Jimswimbooth said...

Ok, we need a new socio-economic term for this: elephanthunting; that is identifying what no one will say in public about this subject. Here's the elephant:
How many federal employees need to be teminated? Answer: 1,000,000(equals about 1 trillion
dollarsa year). Do you hear the out outraged

howling? That's when you've wounded an elephant! Of course this ony works if entire departments are eliminated or you end up with a bunch of over paid managers with no one doing any work. Most gov't progams slow down economic activity, limit resources or discourage creativity anyway.

brodero said...

Why do all the charts of Debt to GDP not include charts of Debt Service to GDP and Savings to GDP??? Just a discussion about
Debt to GDP without the others
seems incomplete.

Dr William J McKibbin said...

Let me think -- if the US cut (i.e., eliminated) Social Security, Medicare, and all discretionary spending, then the outcome would be hunger, people freezing to death in their homes during winter, the end of public education, millions of people unable to pay for their mortgages and existing credit card debts, the complete collapse of the retail industry, the end of the automobile industry, the release of violent criminals from closed prisons, etc -- these are some of the reasons the US cannot "cut" its way into national prosperity...

Benjamin said...

Jimswimbooth:

You want to cut 1 million federal workers? I am totally in your camp.

BTW, here is employment by federal agency. This is a table you will never see at any GOP or Tea Party gathering.

Department of Defense 3,000,000
Veterans Affairs 275,000
Homeland Security 250,000
Treasury 115,000
Justice 112,000
Energy 109,000
USDA 109,000
Interior 71,000

Labor 17,000
HUD 10,000
Education 4,487

I am NOT saying the D-Party is any better.

I am saying nothing changes--both parties are willing to make sacrifices--that is, they are always willing to sacrifice the taxpayer.

honestcreditguy said...

Both parties are owned by the corporate elites..Both parties have never given a turd about the common man. Both parties have a higher rate of millionaires than any demographic group. Until a new party overthrows the lords of finance we will go down the same path as all other imperialist super powers..

3 years from now when the US energy needs are not going to be met...the stock market will be meaningless...

Wall Street, banks and Govts. who sacrifice the sheeple will meet the ultimate fate...revolution....its starting...

TradingStrategyLetter - Weekly Summary said...

It's a kin to saying 'if I can borrow a lot I will be able to pay my bills and not be broke.' How did it work for the Greeks?