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Economics, Sequestration, and the Ghost of John Maynard Keynes

March 1, 2013

by J. Andrew Zalucky

EPI-CBO-chart

If an economic recovery is supposed to signal “morning in America”, the chart above makes me wish I’d stayed in bed.

Sound and Fury

Lately, there has been a tempest wreaking havoc within the teapot of the mainstream press, centered around Paul Krugman’s recent appearance on Morning Joe. You can watch it yourself at that link, but he basically made the point that addressing the national debt should not be at the top of Washington’s priority list. He did not outright dismiss the debt as unimportant, he just made the very orthodox Keynesian point that unemployment and economic growth need to be addressed first. Watch very carefully, as most of the people seated at the table pretty much agree with him full-stop until he makes this inflection about the priority level of the debt. In general, I’m inclined to agree with him that reducing unemployment this should be the major priority of both policy makers and The Fed, because as Ezra Klein once pointed out:

Unemployment isn’t just a problem because it means someone loses his job. It’s a problem because it means that person’s next job is likely to be worse than his last one. People lose their skills, their contacts, their self-confidence. Their résumé begins to look worse and, if they’re older, age discrimination kicks in.

In other words, unless you’re incredibly lucky, long-term unemployment will permanently inhibit your prospects and your class mobility. And as a more recent Pew Study shows, the problem of unemployment is a very persistent one in the current economic recovery:

The share of families with at least one unemployed member nearly doubled during the Great Recession and remains at a high level. In 2007, 6.3% of the nation’s families had at least one unemployed member. That share jumped to 12.0% in 2009 and declined modestly to 11.5% in 2011.6

At the more personal level, the unemployment rate increased from 4.6% in 2007 to 9.3% in 2009 and only edged down to 8.9% in 2011. Not only does unemployment remain high, those who are unemployed remain without work for long periods of time. The median number of weeks people are unemployed climbed sharply from 8.5 in 2007 to 15.1 in 2009 and then elevated further to 21.4 in 2011.

Also, it’s worth remembering that higher employment adds to the amount of tax receipts taken in by the Federal Government and stimulates the economy through increased consumer spending power. And of course, more people employed means less money required for safety net programs like unemployment insurance and food stamps (over time as people’s income makes them ineligible).

Like most Americans who pay attention, I care about our huge national debt, and of you actually watch the clip, Paul Krugman does too. His point, is that it needs to be tackled once the economy is back to its former strength. Again, a very Keynesian approach: austerity needs to come during the boom. If you lock in austerity during or too soon after the bust, it will put downward pressure on growth, thus worsening the recession. Unsurprisingly, Krugman has been met with ferocious opposition for this. I share the sense of urgency for a long-term plan to pay down the debt, especially if estimates about economic growth continue to be pushed back.

The Keynesian Ghost

However, one thing struck me as very peculiar- many of the criticisms have taken on a very Keynesian tone. In other words, because most of his critics don’t have any real solutions that fall outside of the basics of Keynesian economic theory, their only recourse is to pick up on his provocative language on the debt and storm the gates.

Look here at one of Joe Scarborough’s own columns in Politico:

Maybe Paul Krugman is right. Maybe the Nobel Prize winner’s suggestion on “Morning Joe” that Washington politicians cannot walk and chew gum at the same time is dead right. Maybe Barack Obama and Republicans in Congress are incapable of addressing the United States’ long-term debt while avoiding the kind of harsh austerity measures that have led to a triple-dip recession in Great Britain.

This sounds like a pretty big concession from the same host who once praised George Osbourne (the British Chancellor of the Exchequer) for the Conservative/Lib-Dem coalition’s deficit reduction measures. That was of course before Britain fell back into recession. To be fair to Joe, he does admit that measures like tax-cuts actually are Keynesian in their own way.

With all the hysterical, manufactured buzz going around regarding sequestration, its also funny to watch doctrinaire conservatives on Twitter a they back themselves into corners on spending cuts:

conserv twitter

Followed by this Tweet, which is so contradictory you’d think the account was just a troll trying to make conservatives look bad:

more conserv

And finally, three cheers for cognitive dissonance:

even more conserv

If conservatives were really serious when they say that massive cuts in spending will deliver us to the promised land, shouldn’t they be lining up in voracious support of a mere 85 Billion or so in cuts? Or do they realize that such drastic, unplanned cuts could actually hurt economic growth.

As any business leader knows, cost-reduction needs to be approached from a long-term, process-oriented perspective. If your company is in financial trouble, drastic cuts to your services and staff can actually hurt your bottom line and may only serve to make a Chapter 11 scenario more likely.

This Keynesian-slip (as the clever writers over at The New Republic called it) is not limited to conservative firebrands that roam around social media, hoping to engage liberals in some sadomasochistic screaming match. In fact, it was Mitt Romney last year who made his own slip in an interview with Time‘s Mark Halperin. When pressed about why he would not make dramatic cuts in 2013, Romney went on to say that:

if you take a trillion dollars for instance, out of the first year of the federal budget, that would shrink GDP over 5%.  That is by definition throwing us into recession or depression.  So I’m not going to do that, of course…I don’t want to have us go into a recession in order to balance the budget.  I’d like to have us have high rates of growth at the same time we bring down federal spending, on, if you will, a ramp that’s affordable, but that does not cause us to enter into a economic decline.

“Oh Drew, but Mitt Romney was a Republican, not a Conservative.”

Fine, if you want to see examples of Tea Partiers engaged in the same sort of double-think, check out this story by Sam Stein in The Huffington Post from summer 2011. In the piece, he details how “in private, GOP lawmakers have pressed for tens of millions of dollars in federal help for their districts, even while decrying federal spending in front of the national press corps.” For all of their rhetoric against government investment and and the need to slash and burn through public spending, these “young guns” seem awfully eager to use taxpayer money to keep their own districts flush with cash, especially if its to feed the beast of the military-industrial complex.

Some Notes for the Wonkish Reader

It’s interesting to hear conservatives in the media mouth off about how “irresponsible” Keynesian economic theory turned out to be and that all John Maynard Keynes ever suggested was “spend, spend, spend!!!” in any and all economic situations. This meme may sound convincing to a lot of people and it plays well into populist disdain for “those pesky academics”, but its a gross mis-characterization of what Keynes actually said. In his book, Economics Without Illusions, Joseph Heath lays out the man’s argument:

[Keynes] tried to show that countries can get stuck in a “liquidity trap” in which simply printing more money will not satisfy the urge to hoard. Under such circumstances, the only way for the government to get the economy going would be to inject more money directly into circulation, in order to “stimulate demand.”…Left-wing fans of Keynes, however, have largely chosen to ignore the extremely narrow set of circumstances under which he thought this might be beneficial-certainly not during a period of expansion, and not even during an ordinary recession…As a matter of fact, demand doesn’t need to be stimulated, except perhaps at the bottom of the deepest trough of the deepest depression, when interest rates are as low as they can feasibly go.

There are some fiscal hawks who, after criticizing Paul Krugman, have retracted some of their statements. Take Niall Ferguson for example:

The U.S. is a different story. First of all I think the debt to GDP ratio can go quite a lot higher before there’s any upward pressure on interest rates. I think the more I’ve thought about it the more I’ve realized that there are good analogies for super powers having super debts. You’re in a special position as a super power. You get, especially, you know, as the issuer of the international reserve currency, you get a lot of leeway. The U.S. could conceivably grow its way out of the debt. It could do a mixture of growth and inflation. It’s not going to default. It may default on liabilities in Social Security and Medicare, in fact it almost certainly will. But I think holders of Treasuries can feel a lot more comfortable than anyone who’s holding European bonds right now.

Krugman makes basically the same point in his book, End This Depression Now!:

shouldn’t we be concerned about the burden of debt we’re leaving for the future? The answer is a definite “Yes, but.” Yes, debt we run up now as we try to cope with the aftermath of a financial crisis, will place a burden on the future. But the burden is a lot smaller than the heated rhetoric of deficit hawks suggests…In fact, it won’t be a tragedy if the debt actually continues to grow, as long as it grows more slowly than the sum of inflation and economic growth.

After making a number of points about how balanced budgets and economic growth pushed the debt-to-GDP ratio down in the post-war era, Krugman gets more into the wonkish realm of how the government will probably have to address the debt in the future. Now, in case you think I’m just towing the line for Krugman here, I am skeptical of some of this. I’m not an economist and do not have the same immediate access to the data that he does, but with the tepid pace of growth in the US economy and the number of tailwinds we face, the mere notion that our economy will outpace the growth of the debt-to-GDP ratio sounds like a very rosy assumption. He also points out how in the post-war era, the government oversaw several years of balanced budgets, something that seems very far off for us in our current state.

In the end, I think Ronald Reagan’s former domestic policy adviser, Bruce Bartlett, has it right:

“My view is that sometimes Keynesian policies are right and sometimes they are wrong; it all depends on the economic circumstances. Historically, many Republicans have apparently agreed.”

And while they might not like to admit it, most media pundits and movement conservatives agree as well.

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