A Useful Guide to the Federal Budget

On September 15, 2012, in budget, debt, deficit, by admin

David Wessel. Red Ink: Inside the High-Stakes Politics of the Federal Budget. Crown Business, pp. 204, $22.00 The United States, once a creditor to the world, is now in debt. Indeed, America is now one of the world’s biggest debtor nations, with an external debt to GDP ratio approaching 100%. While politicians from both parties [...]

David Wessel. Red Ink: Inside the High-Stakes Politics of the Federal Budget. Crown Business, pp. 204, $22.00

The United States, once a creditor to the world, is now in debt. Indeed, America is now one of the world’s biggest debtor nations, with an external debt to GDP ratio approaching 100%. While politicians from both parties acknowledge that the debt and the federal budget deficit pose substantial policy challenges, there is very little consensus in Washington as to what actually should be done to safeguard the nation’s finances for future generations, or whether deficit reduction should even be considered a primary goal at the moment.

When President Obama mentioned reining in the deficit at the recent Democratic Convention in Charlotte, there was scant applause in the crowd, at least in comparison to other topics he addressed. On the other side of the aisle, there are some ideologically-driven politicians who actually seem to believe their own rhetoric that immediately enacting massive spending cuts will miraculously lead to a new golden age of American economic prosperity, without any deleterious consequences or spillover effects.

With respect to the upcoming 2012 elections, when Mitt Romney chose Paul Ryan as his Vice Presidential nominee, he elevated the Budget Committee Chairman to the national stage. From that point on, the “Ryan Plan,” the Wisconsin Congressman’s eponymous budget proposal, which includes significantly cutting spending on federal safety net programs, would be an integral part of the presidential campaign.

An educated layman, bombarded on all sides by pundits in print, and talking heads on cable news, would be hard pressed to make sense of all the various accusations, counter-accusations, and outright lies that permeate the nation’s political discourse this election cycle. For readers interested in finding a guide for the perplexed to the nation’s budget in all its complexity, Red Ink: Inside the High-Stakes Politics of the Federal Budget is a welcome and useful addition to a growing corpus of literature on the peril posed by the national debt to America’s future.

In Red Ink, David Wessel (Wall Street Journal) has penned a relatively brief, but comprehensive, study of the federal budget and the seemingly never-ending political fights over it. The budget is not just about numbers or an abstraction devoid of greater political significance. “With far more precision than thirty-second sound bites or campaign speeches,” posits Wessel, “the president’s budget and alternative crafted by the opposition in Congress reflect contrasting visions for the size of government in America and the role it plays in the economy.” To illustrate his point, Wessel contrasts Jack Lew, President Obama’s director of the White House Office of Management and Budget (OMB), with Congressman Paul Ryan. Whereas, Lew “believes in government,” Romney’s running mate is on a “quest . . . to limit the size of government, including spending less on Medicaid and almost everything else.” Ryan’s “weapon of choice,” according to the author, is the budget.

Given that the budget is such a contentious political issue, one would think that the voting public would be fairly well informed as to how much the federal government spends and on what. Sadly, this does not appear to be the case. Indeed, one of the takeaway lessons of Wessel’s recent work is that the public is often misinformed, perhaps staggeringly so, on budgetary matters. Wessel cites the results of one CNN poll in which a typical respondent stated that he believed food stamps accounted for 10% of federal spending (it is actually around 2%). In addition, the results of a Cornell University poll demonstrate that an amazing number of persons who receive Social Security benefits or are covered by the Medicare program feel that they have not used a government social program. The joke about Tea Party protesters holding signs that read, “Keep Your Government Hands Off My Medicare” would be funnier, if it were not such a sad reflection of the state of public knowledge about the U.S. government’s role in the economy.

Red Ink
is divided into five discrete chapters, each of which is clearly written and well organized. In a more perfect world, voters heading to the polls this November will read the book’s third chapter, “Where the Money Goes,” prior to casting their ballots. He discusses such topics as how voters overestimate waste and inefficiency, how health care spending is rising to a greater extent than other portions of the federal budget, and how Social Security, which accounts for approximately 20% of federal spending, “is perhaps the most popular part of the federal budget.” Regarding farm policy, Wessel notes that President Obama’s most recent budget envisioned ending direct payments to farmers. He also discusses the food stamp program and the expansion of the program under both George W. Bush and Obama.

The book’s final chapter, “Why This Can’t Go On Forever,” is a wakeup call to Americans and their elected representatives. Wessel approvingly quotes Doug Elmendorf, director of the non-partisan Congressional Budget Office (CBO), who has argued that there is a stark disconnect between what the public expects the federal government to provide, especially to seniors, and what taxes people are willing to pay to finance such programs. As much as the public likes to criticize Congress, it must be incredibly frustrating for those rare politicians seriously interested in reducing the deficit to be told by constituents that they want even lower taxes, but that Congress shouldn’t cut Social Security or defense. While Wessel is overall successful in defining the contours of the political debate, his work’s final chapter would have been even more powerful had he been more revealing as to his personal opinions, particularly regarding what approach to deficit reduction would be most preferable.

Red Ink does not end on a particularly optimistic note. Wessel is clearly frustrated by the lack of compromise in Washington, polarized as he perceived it to be between President Obama’s budget and Congressman Ryan’s alternative. “Neither side has enough votes to prevail, and neither is willing to compromise on some amalgam that might spread the pain that both can live with. This is the crux of the issue: the deficit widens, the debt grows, the interest burden gets heavier, the voices grow even more shrill as the budget burden is passed to future generations, and nothing gets done.” If, as I suspect, the 2012 elections result in both President Obama’s reelection and a Democrat-controlled Senate and a Republican-controlled House, we probably ought to prepare ourselves for another two more years of gridlock. Eventually, however, the proverbial ‘can’ may rise up and no longer let politicians to boot it any further down an already long and tired road.

Jonathan Eric Lewis (c) 2012

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A Primer on the National Debt

On May 8, 2012, in credit, economic theory, insurance regulation, tax policy, by admin

Simon Johnson and James Kwak. White Housing Burning: The Founding Fathers, Our National Debt, and Why It Matters To You. Pantheon Books, 2012, pp. 352, $26.95 The two constants in the upcoming 2012 general election likely will be an inordinate amount of negative campaigning and vigorous disagreement about how to best foster economic growth. Implicit [...]

Simon Johnson and James Kwak. White Housing Burning: The Founding Fathers, Our National Debt, and Why It Matters To You. Pantheon Books, 2012, pp. 352, $26.95

The two constants in the upcoming 2012 general election likely will be an inordinate amount of negative campaigning and vigorous disagreement about how to best foster economic growth. Implicit in any discussion about the nation’s economic woes is the national debt, which as of May 7, 2012, was $15,671,202,480,642.98. While the political center-left has highlighted the perils of rising consumer and student debt, the Tea Party movement and political libertarians have ensured that the perils of this country’s rising national debt remain in the public consciousness. But what should be done about the country’s debt? Should we enter into an age of austerity in which public spending at the federal level is significantly curtailed and once-cherished safety net programs such as Social Security and Medicare are quasi-privatized? How did we get ourselves into debt to begin with? At a more theoretical level, should we be asking ourselves whether debt is always such a bad thing for a country?

In White House Burning, Simon Johnson (Massachusetts Institute of Technology) and James Kwak (University of Connecticut School of Law)* argue that the debate over the national debt comes down to how Americans want to respond to risk, either on their own volition, or through government-run insurance programs. The same is true for the deficit. “The great deficit debate,” write the authors, “is about how much risk people should bear themselves and how much they should pool with each other via the government.” The authors contend that it is indeed possible to maintain a sustainable level of debt and simultaneously have the federal government continue to play its role as an insurer against risk. Indeed, in chapter seven, they delineate what they believe to be the best method for achieving this goal. While most conservatives would likely not agree with their recommendation that the Bush tax cuts expire, others surely will appreciate their preference that tax expenditures, including the mortgage interest deduction, be eliminated or reduced.

While the direct policy sections of White House Burning are somewhat dry reading and do not break substantially new ground, the book’s earlier chapters do merit attention, particularly by those readers interested in economic history. In their Introduction, they discuss how the country’s fiscal weakness during the War of 1812 led to the burning of the White House by British troops in 1814, “the low point of the war, a moment of national humiliation that remains an iconic image in U.S. history” and, one should note, accounts for the title of the book. The problem during the War of 1812, contend the authors, was that Great Britain had money, while Congress opted for “higher spending without higher taxes.” Today, the approaching fiscal crisis comes not from the threat of a literal land invasion, but by a greying population and rising health care costs.

In Chapter 1, entitled “Immortal Credit,” Johnson and Kwak provide an overview of how the United States dealt with its national debt prior to the end of the gold standard in the Nixon era. Not surprisingly, Alexander Hamilton, America’s first Treasury Secretary, and the man responsible for enacting the country’s earliest fiscal policies, plays an important role. In the book’s second chapter, “End of Gold,” the authors posit that the changing relationship between gold and money over the past three centuries has had important consequences for the national debt. The breakdown of the Bretton Woods system for international finance in the early 1970s, led to a growth of American national indebtedness. “Under the Bretton Woods system, the capacity of the world to buy American bonds was limited by American gold reserves; today it is limited only by market demand, which has turned out to be much more forgiving.” Indeed, international investors still consider Treasury bonds to be safe assets. But, as the authors aptly warn, markets could turn against the United States should the world begin to doubt Washington’s ability to manage the dollar effectively.

In conclusion, White House Burning is a useful primer for those readers interested in learning about the national debt and what drives it. Although not as compelling as the authors’ previous work, 13 Bankers: The Wall Street Takeover and the Next Financial Meltdown, in which they argued that the close ties between Washington and Wall Street are not healthy for the American economy and polity, this most recent publication is still worth reading. This is particularly true for readers interested in how the federal government acts as an insurer against risk for a large segment of the population. Whether their work will have any impact on the gridlock in Washington remains yet to be seen.

Jon Lewis (c) 2012
* I received my J.D. from the University of Connecticut School of Law prior to Professor Kwak taking the position at the law school.

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Rethinking Economic Competition

On September 7, 2011, in economic theory, tax policy, by Jon Lewis

The Darwin Economy: Liberty, Competition, and the Common Good. Robert H. Frank. Princeton University Press 2011, pp.240, $26.95 Following the financial crisis of 2008 and the subsequent automobile and bank bailouts, which solidified already-increasing ties between the federal government and the private sector, intellectual interest in free market economics has increased. This is particularly true [...]

The Darwin Economy: Liberty, Competition, and the Common Good. Robert H. Frank. Princeton University Press 2011, pp.240, $26.95

Following the financial crisis of 2008 and the subsequent automobile and bank bailouts, which solidified already-increasing ties between the federal government and the private sector, intellectual interest in free market economics has increased. This is particularly true for those members of the Millennial Generation who are attracted to the libertarian message of free market competition and social tolerance. But what if competition does not always lead to prosperity, but instead leads to mutual disadvantage? What if the framework for understanding how competition works has been fundamentally misunderstood and has only exacerbated the dismal budgetary outlook for the United States?

In The Darwin Economy, Cornell economics professor and New York Times columnist Robert H. Frank argues that the current gridlock in Washington is not the result of “irreconcilable differences in values, but of a simple but profound misunderstanding about how competition works.” Reflecting the title of his academic monograph, Frank argues that the insights of Charles Darwin, rather than those of Adam Smith, are more applicable to an understanding of economics. “Darwin’s analysis revealed a systemic flaw in the dynamics of competition. The failures he identified resulted not from too little competition, but from the very logic of the process itself.”

Frank posits that collective action problems, wherein what is good for individuals within a group are not good for the group as whole, pose a challenge to the libertarian belief in unfettered free markets. As an example, Frank discusses bull elk and their antlers; in the competition for female mates among male bull elk, it is the relative size of antlers that matters. Those bull elk males with the largest antlers would clearly be victors in the quest for female elk; what is good for individual male elk, however, is not necessarily good for elk as a collective. “Although each mutation along this path enhanced individual reproductive fitness, the cumulative effect of those mutations was to make life more miserable for bull elk as a group. Large antlers compromise mobility in densely wooded areas, for example, making bulls more likely to be killed and eaten by wolves.”

Frank emphasizes the significance of Darwin’s observation that “much of life is graded on the curve” and that relative position very much matters. In other words, what constitutes a large house that confers social status on a family depends not on objective criteria for largeness, but upon a house’s size relative to other houses. Applying that insight to contemporary economic theory, Frank argues that, “no economic model can hope to capture how markets actually function unless it begins with the assumption that context shapes evaluation in significant ways.” Similarly, it is his belief that relative purchasing power matters when it comes to achieve many life goals.

This leads Frank to a larger political argument. If libertarians are wrong about competition, as he repeatedly suggests they are, the left is equally wrong about why there is a need for regulation. According to Frank, the political left’s claim “that regulation is necessary to protect us from exploitation by sellers and employers with market power” is off the mark. In his formulation, “the real reason we regulate is to protect ourselves from the consequences of excessive competition with one another.” Those who studied economics or environmental law will likely recall the tragedy of the commons problem wherein individual incentives in fishing are not aligned with group incentives, thus leading to overfishing; indeed, Frank devotes a portion of Chapter 10 to that incentive structure problem and analogizes the traditional tragedy of the commons formulation with the problem of too many elite university graduates seeking employment in the winner-take-all markets on Wall Street, leading to wasteful overcrowding.

Frank’s conceptualization of the nature of competition leads him to endorse certain policy proposals and to reject others, particularly when it comes to ameliorating America’s current deficit woes. He draws upon John Stuart Mill’s harm principle, the notion that “the government may legitimately restrict individual behavior to prevent undue harm to others” to make the case that, contrary to libertarians, the government can and should place limits on individual economic behavior.

In Frank’s formulation, however, tax policy, rather than an overly burdensome regulatory policy, should be utilized to restrict behavior that is harmful to others. “Taxing harmful activities,” writes Frank “is the best way to raise the revenue essential for reducing deficits.” He proposes that these “new taxes should be phased in only after the economy is back at full employment,” but fails to recognize that anything looking like full employment may not be in the cards for the foreseeable future. Furthermore, the nature of work itself is changing in such a way as to fundamentally challenge the conception of what it means to be employed, thus posing a challenge to Frank’s timeline for implementing the proposed taxes.

The biggest problem in imposing Pigouvian taxes – taxes on harmful activities – is in defining what constitutes harmful behavior. Taxes could also be disguised as fees. In addition, from a purely fiscal viewpoint, readers would have good reason to remain skeptical as to whether taxing harmful activities, however defined, would raise enough revenue to pay down our current debt. Reforming the tax code to reduce spending through tax expenditures would be a more sensible approach. It is also one that would not lead to what would most certainly be a contentious debate as to what particular individual behaviors are harmful to society as a whole.

Policy analysts with an interest in economic theory, cost-benefit analysis and the work of the Nobel Prize-winning economist Ronald Coase, would find much to appreciate, if not necessarily to agree with, in Frank’s new book. Frank writes in an engaging manner, successfully making complex theories accessible to a general audience. He also can also be pithy, as in his discussion of environmental regulation. “If someone insists that the optimal level of every pollutant in every environment is zero, ask him why he isn’t at home vacuuming his living room at this very moment.” In conclusion, The Darwin Economy is worth consideration, particularly by both those liberals and libertarians who are willing to have their assumptions about tax policy challenged.

Jon Lewis (c) 2011

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