Friday, October 15, 2010

Federal budget update: still a significant concern

Spending has slowed, and revenue has picked up, with the result that the budget deficit has shrunk from a high of $1.48 trillion (about 10% of GDP) last February to $1.3 trillion (about 8.8% of GDP) today. Although it's difficult to see in the top chart, spending has actually picked up a wee bit in recent months, and if and when new programs like ObamaCare kick in, spending is quite likely to reaccelerate, pushing government spending up to about 25% of GDP (or more) on a permanent basis; that would represent a 20% expansion in the relative size of government compared to the average of the postwar period. This is the part of the budget that weighs most heavily on the economy, since government spending is chronically inefficient, and transfer payments—which make up over half of the budget—create pernicious disincentives to work. Even though the deficit is likely to shrink a bit more as revenues continue to increase, the deficit is very likely to remain large enough to also weigh heavily on the economy, since it is absorbing a significant portion of our savings.

It is of great concern as well that the Federal Reserve is contemplating the purchase of a substantial portion of the deficit (thus monetizing the deficit, which is what economic textbooks refer to as a sure-fire way to create inflation) in coming months.

If not for promise of significant change as a result of the upcoming elections, this budget picture would all but guarantee disappointingly slow economic growth for the foreseeable future. If spending can be reined in as Republicans are promising, and if the Bush tax cuts can be extended, that would create a lot of light at the end of this otherwise dark tunnel. Fiscal austerity in this environment would, ironically, provide a significant boost to growth going forward.


Bill said...


Didn't the core CPI reading today suggest that inflation is not a real risk right now? Do you think it's still possible for GDP growth for 2010 to be in the 3-4% range given the trade and CPI stats this week?

As always, thanks for your insight.

Jim said...

That 3rd chart is a little scary. I am wondering if Q2 is even attempted will it portend inflation?

What about the analogies with Japan?

NormanB said...

We always see the deficit as a % of GDP but I never see it as a % of spending. That would tell us how much our Reps and Senators are spending over what the gov't takes in. I think now its at least 50%.

Scott Grannis said...

Bill: the core CPI reading was indeed very low, but that does not mean inflation is not a real risk. The CPI is a backward-looking indicator of inflation. What's important is what it inflation will be in the future, especially if it's going to be greatly different from what it has been.

My forward-looking indicators of inflation all say there is a real risk of rising inflation: the value of the dollar, the price of gold and commodities, the slope of the yield curve, and the inflation expectations embedded in TIPS prices.

Scott Grannis said...

James: the relevant analogy to Japan is government spending and deficits. Ours are now beginning to be like Japan's have been for decades. There is a case to be made that lots of government spending and big deficits are the cause of Japan's sluggish economic growth.

They haven't created inflation in Japan because their central bank has been very focused on keeping inflation low.

That is not the case here, where the Fed now wants inflation to rise. Also, the dollar is very weak, whereas the yen is very strong: very, very different monetary policies.

Scott Grannis said...

NormanB: Over the 12 months ending September, the federal budget deficit was 37% of federal spending. (1.295 trillion vs. 3.456 trillion)

Benjamin Cole said...


The bond market expects very, very little inflation, and I don't think they will be surprised.

Another inflation indicator is real estate prices, and they are dead, and still going down in some cases.

If investors expect inflation, they would buy real estate (especially at todays interest rates). Please, somebody tell investors there will be inflation.

Remember, the 0.8 core CPI probably overstates inflation by one percent or so (Boskin Commision, and recent AER peer-reviewed study).

I just don't understand the fear of inflation at this juncture. It seems misplaced.

I would rather have five years of five percent growth at five percent inflation than five years of zero inflation and zero growth. We may be heading toward the latter.

inflation is dead, dead, dead, dead, dead.

Deflation is entering stage left.

One big danger: The more people buy bonds, the more they have a stake in deflation. In Japan, the bond-holding class is powerful. Therefore, they have kept the monetary noose around the neck of that once-great economy. Now, they are becoming a backwater nation.

Be careful what you wish for.

marmico said...

Heh Grannis, can I ask you some questions, since you seem to be in the mood? Just pretend that I'm Bill, James & NormanB. I know, it's tough to debate.

1. What percentage of the 2010 federal deficit (fiscal year just ended) are automatic stabilizers?

2. What percentage of the projected 2011 federal deficit are automatic stabilizers?

3. Why are federal government revenues at Eisenhower era levels?

4. What are the long run federal deficits as a percentage of GDP if the Bush43 tax cuts are extended?

5. What are the long run federal deficits as a percentage of GDP if the Bush43 tax cuts are not extended.

6. Can you link some peer reviewed empirical data that the GDP & unemployment gap will be reduced with fiscal austerity?

7. What is your projection of the fiscal deficit in 2011?

8. Why do you support a witch from Delaware and a homophobe from New York?

Well, you can ignore question 8, but as always, thanks for your insight on expected inflation and your Wall Street Journal linked editorials.

9. Is the Wall Street Journal the sole source of your news?

10. When will you bite the bullet and downgrade your "moderate" 3-4% GDP growth paradigm?

11. Will the AMT patch be passed by the congresscritters before December 31?

12. Do you think that fraudclosure gate will crush the housing market?

I look forward to your carefully crafted responses to the dirty dozen.

John said...

"If not for promise of significant change as a result of the upcoming elections, this budget picture would all but guarantee disappointingly slow economic growth for the foreseeable future."

Significant change? Not so, Bernanke's not on the ballot.

The problem, one the supply-siders are blind to, is lack of demand. Too many people are broke, in debt, or have damaged credit.

"if you don't pay the people, they can't buy the cars." - Henry Ford

Add to that the protectionist policies of the Tea Party and we won't be selling cars overseas, either.

Bill said...


I'd be interested in knowing your qualifications- education, professional background and track record on investments to determine whether your pronouncements are worth following or if you're just another broken clock right twice a day.

Jeff said...

Marmico's qualifications are this:

1) Like Cong. Phil Haree, believes deficts are a myth.

2) Graduated from the U of Marx majoring in Automated Confiscation

3) Total Fed Rev in 1962 - $160B. Total Fed Rev in 2010 - $2,230B.
Yet believes Govt hasn't grown since Ike.

4) Hates any tax cut.

5) Thinks government can't afford to 'give the rich more money' by keeping tax rates the same (ala Donna Brazile - Al Gore's Campaign Mgr)

6) Thinks "we have to spend more money to keep from going broke (ala Joe Biden)

7) Thinks 2011 deficits are a myth too.

8) I'm not a witch, I'm your wife! (Gotta know Princess Bride for this one.)

9) He only gets his news from MSNBC's Keith Olbermann

10) Hates all growth...bad for the environment.

11) IS an AMT (Another Mindless Twit)

12) Is being foreclosed on right now on his $75,000 condo in Toledo.

13) Is still all wet

Jeff said...

marmico, aswer these questions:

1) 100 years ago, goverments (fed, state, local) took about 8% of GDP. What is it today?

2)Our Federal debt is about $13.6 trillion. What is the total Unfunded Federal Liabilities?

3) Are total Federal Liabilites greater or less than total world GDP?

4) When Bush sent out checks (twice) as stimulas, why didn't I get mine?

5) Can government stimulate an economy?

6) If Obama takes a million dollars from me and gives it to you, what is the net stimulas to the economy?

7) Are you shovel ready?

8) Was Obama's first year deficit great or less than the last eight years combined?

9) If it took a Carter to get a Reagan, what will Obama bring?

10) Who was the greatest President in the last 50 years (excluding Ike, Kennedy, Johnson, Nixon, Ford, Carter, Bush, Clinton, Bush, and Obama)?

11) What will my tax rate be in 2011?

12) Are you still all wet?

McKibbinUSA said...

If one's goal is to curb government spending, then I would say the case for doing so does not come close to what would be required to overcome the political resistence to such a change. In other words, trying to convince "the people" to cut government spending is a waste of time.

What needs to happen instead is to invest that effort into forging a political alliance that will bring a constitutional convention to occur, curing which constitutional controls over the budget can be created. I know this would be tough, but I am convinced that government spending and taxing can only be curbed through constitutional means. Our current constitution fails to provide for a presidential line-item veto or even a balanced budget requirement. Each of these need to be inserted into the US Constitution before changes can occur, and that effort has yet to begin.

However, I'll say it again -- if people think that they are going to somehow convince the beneficiaries of government spending (e.g., the military industrial complex and those delivering entitlements), then I believe that such an effort is delusional and bound to fail.

Perhaps a so-called "Constitutional Party" needs to be formed...(?)

CDLIC said...

Dr. William,

Constitutional Convention: A VERY, VERY bad idea!

From the following from site

[Note: the link above provides excellent information regarding the danger of having a Constitutional Convention; worth the read]

"A Constitutional Convention is a legislative body;
which operates ABOVE the limitations of the Constitution.
This makes it more powerful, and MORE DANGEROUS, than any other legislative body.
This is not an opinion, but it if a fact of law.
A Constitutional Convention is a means of DESTROYING the American Republic. A Constitutional Convention is opening a "Pandora's box" for RADICAL change. Once the "genie is out of the bottle" no one can control it."

marmico said...
This comment has been removed by a blog administrator.
John said...

Dr. McKibben is on to something here.

Look what has happened since about 1980. The lower middle, middle middle and working class saw their wages stagnate or decline. The powers then effectively said to the workers,

"No problem, we'll make it easy for you to borrow. And, if things get ugly, don't worry, the government will bail out the banks. As for your situation, dear citizen, you're on your own. To do otherwise would be moral hazard."

So people borrowed. It was easy. Offers came in the mail all the time. Next comes the commodity bubble, fueled by speculators, spiking in 2007. Too many realized the game was over, they lost. Bankruptcy, forclosure followed.

A consititutional restraint as Dr. McKibben describes may have prevented the irresponsible lending and borrowing because banks would have known they were working without a government safety net.

Workers, without the ability to borrow would have had to put real pressure (e.g., stikes) on employers to get higher wages and benefits.

I say give it a try. We don't want a loan, we want a raise.

Benjamin Cole said...

Constitutional Convention?
Well, if we could have an amendment calling for a balanced budget that takes no more than one-seventh of national income, and that each state gets back what it pays to DC, then I am in.

But the rural Red States live on federal handouts. Good luck.

John said...

The subsidies the federal government sends to red states is necessary to allow them to have cheaper labor and attract businesses. If not for that, those businesses would send even more jobs to India.

If New Jersey would only bust some of their unions and lower standards of living, they wouldn't be getting only 69 cents back for every dollar they sent to Washington. You see, it's their own dang fault.

Benjamin Cole said...

An investor sizes up Japan"

"But perhaps the most noticeable impact here has been Japan’s crisis of confidence. Just two decades ago, this was a vibrant nation filled with energy and ambition, proud to the point of arrogance and eager to create a new economic order in Asia based on the yen. Today, those high-flying ambitions have been shelved, replaced by weariness and fear of the future, and an almost stifling air of resignation. Japan seems to have pulled into a shell, content to accept its slow fade from the global stage."

That is what tight money did to Japan. A strong yen, and zero inflation--and a dead-cat economy.

We need QE2 in a big way.

Don Halldin said...


Get a job. Make a payroll, employ your neighbors, provide a product/ something with your life instead of hating those who do. And palllleeeeesss stop spouting the socialist nonsense. Everyone on this site had to sit through redistribution 101 in college