As I point out in the video, balanced budget requirements and anti-deficit rules have not produced good results in American states or EU nations.
The takeaway is that good policymakers should push for spending caps for theoretical reasons and practical reasons.
P.S. I was very pleasantly surprised when the German government recently endorsed EU-wide spending caps.
P.P.S. Remarkably, there are pro-spending-cap studies from left-leaning bureaucracies such as the International Monetary Fund (here and here) and the Organization for Economic Cooperation and Development (here and here). There are also similar studies from the European Central Bank (here and here).
There is a lot of data in the Report. But the most important set of numbers can be found in Table VI.G9.
As you can see from this chart, these numbers show the amount of revenue coming into the program each year, adjusted for inflation, as well as the amount of yearly spending. Both are rising rapidly.
Since the orange line (spending) is climbing faster than the blue line (revenue), the obvious takeaway is that Social Security has a deficit.
But that would be an understatement.
As you can see from the second chart, the cumulative deficit over the next 77 years is more than $60 trillion.
You’ll notice, of course, that I added a bit of editorializing to both charts.
I could probably write dozens of columns (as I did the past two years) about the many bad policies that Biden is pushing.
For today, though, let’s focus on the aggregate numbers.
We’ll start with the fact that Biden’s budget violates the Golden Rule of fiscal policy. He wants the burden of government spending over the next 10 years to increase at twice the rate of inflation (based on Table S-1 and S-9 of his budget)
If you want raw numbers, Biden wants the spending burden to rise from about $6.4 trillion this year to $10 trillion-plus in 2033.
On the revenue side, he wants the tax burden to jump from $4.8 trillion this year to nearly $8 trillion in 2033.
To be fair, spending and taxes automatically increase every year, thanks to inflation, demographic change, and previously enacted legislation.
You can see those “baseline” numbers in Table S-3 of Biden’s budget.
So if we want to see the net effect of what Biden is proposing, we should compared the “baseline” data to his budget numbers.
And when we do that, we find that he wants an additional $1.85 trillion of spending over the next 10 years. Even more shocking, he wants an additional $4.85 trillion of tax revenue.
I’ll close with a couple of observations.
First, Biden has a giant gimmick in his budget. If you look at the details for his proposed per-child handout (Table S-6 of his budget, bottom of page 142), you’ll notice that he’s only proposing the policy for one year.
Why? Because it is enormously expensive, with an annual cost of more than $250 billion.
Yet we know the White House and congressional Democrats want this policy to be permanent. So if we extended the cost of the per-child handout for the full 10 years, the amount of new spending in Biden’s budget would be much closer to the level of new taxes in his budget.
Second, Biden’s budget shows why supporters of good fiscal policy should not focus on deficits. A myopic fixation on red ink allows a big spender like Biden to claim the moral high ground because his proposed tax increase is even bigger than his proposed spending increase.
The variable that matters is the overall burden of government spending. And the goal should be reducing that burden, regardless of whether it is financed with taxes, borrowing, or printing money.
The simple message is that budget deficits are not necessarily inflationary. It depends how budget deficits are financed.
If a government finances its budget deficits by selling bonds to private savers and investors, there is no reason to expect inflation.**
But if a government finances its budget deficits by having its central bank create money, there is every reason to expect inflation.
So why would politicians ever choose the second option? For the simple reason that private savers and investors are reluctant to buy bonds from some governments.
Consider the example of Japan. It has been running large deficits for decades, resulting in an enormous accumulation of debt. But Japan has very little inflation by world standards. Why? Because governments bonds are financed by private savers and investors, who are very confident that the Japanese government will not default..
Consider the example of Argentina. It has been running large deficits for decades. But even though its overall debt level if much lower than Japan’s, Argentina suffers from high inflation. Why? Because the nation’s central bank winds up buying the bonds because private savers and investors are reluctant to lend money to the government.
If you want some visual evidence, I went to the International Monetary Fund’s World Economic Outlookdatabase.
Here’s the data for 1998-2022 showing the average budget deficit and average inflation rate in both Japan and Argentina.
The bottom line is that prices are very stable in Japan because the central bank has not been financing Japan’s red ink by creating money.
In Argentina, by contrast, the central bank is routinely used by politicians as a back-door way of financing the government’s budget.
*To make sure that my libertarian credentials don’t get revoked, I should probably point out that all governments are untrustworthy. But some are worse than others, and rule-of-law rankings are probably a good proxy for which ones are partially untrustworthy versus entirely untrustworthy.
**Borrowing from the private sector is economically harmful because budget deficits “crowd out” private investment. Though keep in mind that all the ways of financing government (taxes, borrowing, and money creation) are bad for prosperity.
And you can see from this chart that the fiscal burden of the federal government is projected to grow at a very rapid pace over the next decade.
Other fiscal experts fret that deficits and debt are increasing between now and 2033, but the above chart shows that the real problem is that the spending burden is rising faster than the tax burden.
The real fiscal fight in Washington is how to close the gap between the red spending line and the green revenue line (supporters of Modern Monetary Theory say we can just print money to finance big government, but let’s ignore them for purposes of today’s column).
Since I think Washington is spending far too much, I want to close the gap by restraining the growth of government.
So here’s a second chart illustrating what would happen if there was some sort of spending cap. As you can see, a spending freeze (like we had from 2009-2014) would balance the budget by 2030.
And spending would have to be limited to 1.3 percent annual growth if the goal is to balance the budget within 10 years,
And, even if they did want to do the right thing, adhering to a 1.3 percent spending cap would require serious entitlement reform. So don’t hold your breath hoping for immediate progress.
P.S. The numbers are out of date, but here’s a video that explains how spending restraint is the key to fiscal balance. And here’s a video on how some other nations made enormous progress with multi-year spending restraint.
So let’s start today’s column with the simple observation that America’s current fiscal trajectory is unsustainable.
The burden of federal spending is projected to jump over the next several decades up to 30 percent of GDP while taxes “only” increase to about 19 percent of GDP.
It is inconceivable that all that new spending will be – or can be – financed by borrowing. Simply stated, domestic and international investors will decide that bonds from Uncle Sam are too risky.
He’s not overtly admitting that agenda, but that’s the unavoidable outcome based on what Joshua Green of Bloomberg recently reported about his opposition to entitlement reform.
Trump is hoping to reverse his fortunes and revive his moribund presidential campaign with a…short video message. …he looks straight to camera and declares, “Under no circumstances should Republicans vote to cut a single penny from Medicare or Social Security.” …In fact, he has been remarkably consistent and outspoken over the years in his attacks on Republican efforts to cut Social Security and Medicare. …he was viewed as the least conservative Republican nominee in decades. He favored lots of infrastructure spending…and he made a big deal about protecting Social Security and Medicare.
The story also explains that Trump was the big-government candidate among Republicans in 2016 (as I noted at the time) and suggests he will hold to that position as the 2024 race develops.
Trump’s position set him apart from the other 16 Republican presidential candidates, who generally shared Ryan’s belief, prevalent among House Republicans, that cutting Social Security and Medicare was a fiscal imperative. That’s where DeSantis comes in. …DeSantis was also one of the founding members of the House Freedom Caucus, which drove the effort to cut entitlements when he was in Congress. DeSantis voted repeatedly — in 2013, 2014, and 2015 — for budgets that slashed spending on Social Security and Medicare
By the way, the article is flat-out wrong on a few points.
It is grossly inaccurate to assert that the Ryan budgets “slashed spending.” Overall spending increased in the budgets that Ryan, DeSantis, and other Tea Party Republicans supported back in 2013, 2014, and 2015.
All that happened is that spending would not have been allowed to grow as fast as previously planned.
When leftists (or misguided rightists) tell me that Americans are under-taxed and that the government has lots of red ink because of insufficient revenue, I sometimes will direct them to the Office of Management and Budget’s Historical Tables in hopes of changing their minds.
I’ll specifically ask them to look at the data in Table 1-3 so they can see what’s happened to federal tax revenue over time. As you can see from this chart, nominal tax revenues have skyrocketed.
The reason that I send them to Table 1-3 is that they can also peruse the numbers after adjusting for inflation.
On that basis, we see the same story. Inflation-adjusted federal tax revenues have grown enormously.
The two charts we just examined are very depressing.
So now let’s peruse at a chart that is just mildly depressing.
If you look at federal tax revenues as a share of economic output, you’ll see that Uncle Sam currently is collecting slightly more than 18 percent of economic output. Since the long-run average is about 17 percent of GDP, that’s not a horrific increase.
However, there are still some reasons to be quite concerned.
That means that politicians in DC not only are getting more money because of inflation, but also because the economy is expanding.
Third, not only are politicians getting more money because the economy expanding, they’re slowly but surely expanding their share.
That’s very bad news for those of us who don’t like higher taxes and bigger government.
Some people, however, have a different perspective
In one of his columns for the New York Times, Binyamin Appelbaum argues that Americans are undertaxed.
…the United States really does have a debt problem. …Americans need more federal spending. The United States invests far less than other wealthy nations in providing its citizens with the basic resources necessary to lead productive lives. …Measured as a share of G.D.P., public spending in the other Group of 7 nations is, on average, more than 50 percent higher than in the United States. …There is another, better way to fund public spending: collecting more money in taxes. …If the debt ceiling serves any purpose, it is the occasional opportunity for Congress to step back and consider the sum of all its fiscal policies. The nation is borrowing too much but not because it is spending too much. The real crisis is the need to collect more money in taxes.
I give Appelbaum credit for honesty. He openly advocates for higher taxes and bigger government, explicitly writing that “Americans need more federal spending.”
And he is envious that spending in other major nations is “more than 50 percent higher than in the United States.”
But this raises the very obvious point about whether we should copy other nations with their bigger welfare states and higher tax burdens. After all, European nations suffer from weaker economic performance and lower living standards.
Does Appelbaum think we’ll have “productive lives” if our living standards drop by 50 percent?
The bottom line is that I’m completely confident that Appelbaum would be stumped by the never-answered question.
P.S. Dishonest leftists claim tax increases will lead to less red ink while honest leftists like Appelbaum admit the real goal is a bigger burden of government.
Let’s now go back more than 30 years for this segment from a 1990 interview.
So why am I sharing my thoughts on Washington’s use of misleading budget rhetoric?
Because while I’ve pontificated about this issue in the past (threetimes in 2011 and twotimes in 2012), it’s definitely time for a refresher course.
I’m motivated by this chart from the folks at the Committee for a Responsible Federal Budget. They want readers to believe that balancing the budget over the next 10 years would require drastic spending cuts.
To understand what’s wrong with this CRFB chart, let’s go to the latest 10-year forecast from the Congressional Budget Office.
You’ll notice that this year’s federal budget is $5.87 trillion. And you’ll also notice that revenues in 2032 are projected to climb above $6.66 trillion.
At the risk of showing off my amazing math skills, $6.66 trillion is more than $5.87 trillion. Indeed, nearly $800 billion higher.
And what does that mean? Well, it means that we can balanced the budget by 2032 so long as spending does not increase by more than $800 billion between now and 2032. As illustrated by this chart.
To be fair to the CRFB crowd, they didn’t use make-believe numbers.
Their estimate is based on what would happen if the federal budget is left on autopilot, which means the budget grows every year because of factors such as inflation, demographic change, and previously legislated program expansions.
They then compared that artificial “baseline” to projected revenues. That’s how they came up with an estimate of a 26 percent budget cut.
In reality, though, government would be spending more than 13 percent more in 2032 when compared to 2023.
Here’s the bottom line: If CRFB or anyone else wants to argue that the budget should grow by more than 13 percent over the next nine years, they can make that argument. They can say that various programs are important and that overall spending should increase because of inflation. Or demographics.
Heck, they can even say spending should grow at a rapid pace because AOC and Bernie want bigger government.
And if you understand those three things, then you realize that the real problem is spending.
At the risk of over-simplifying, taxes, borrowing, and printing money should be viewed as different ways of doing a bad thing.
Since I mentioned over-simplifying, I’ll close with a couple of observations that are somewhat contradictory.
First, I don’t worry very much about whether there is a surplus or a deficit in any particular year, but it is a good idea to have long-run fiscal balance (compared to the alternatives of financing the budget with borrowing or printing money).
Second, while taxes are the most appropriate way to finance spending, tax increases are a reckless and irresponsible option because we have so much evidence that politicians will respond with additional spending and additional debt.
To be sure, it is not a good idea to have too much debt-financed spending. But it’s also not a good idea to have too much tax-financed spending. Or too much spending financed by printing money.
Other people, however, do fixate on budget deficits. And I get drawn into those debates.
For instance, I wrote back in July that Biden was spouting nonsense when he claimed credit for a lower 2022 deficit. But some people may have been skeptical since I cited numbers from Brian Riedl and he works at the right-of-Center Manhattan Institute.
So let’s revisit this issue by citing some data from the middle-of-the-road Committee for a Responsible Federal Budget (CRFB). They crunched the numbers and estimated the impact, between 2021 and 2031, of policies that Biden has implemented since becoming president.
The net result: $4.8 trillion of additional debt.
By the way, this is in addition to all the debt that will be incurred because of policies that already existed when Biden took office.
If you want to keep score, the Congressional Budget Office projects additional debt of more than $15 trillion over the 2021-2031 period, so Biden is approximately responsible for about 30 percent of the additional red ink.
Some readers may be wondering how Biden’s 10-year numbers are so bad when the deficit actually declined in 2022.
But we need to look at the impact of policies that already existed at the end of 2021 compared to policies that Biden implemented in 2022.
As I explained back in May, the 2022 deficit was dropping simply because of all the temporary pandemic spending. To be more specific, Trump and Biden used the coronavirus as an excuse to add several trillion dollars of spending in 2020 and 2021.
That one-time orgy of spending largely ended in 2021, so that makes the 2022 numbers seem good by comparison.
Sort of like an alcoholic looking responsible for “only” doing 7 shots of vodka on Monday after doing 15 shots of vodka every day over the weekend.
If that’s not your favorite type of analogy, here’s another chart from the CRFB showing the real reason for the lower 2022 deficit.
I’ll close by reminding everyone that the real problem is not the additional $4.8 trillion of debt Biden has created.
P.S. If you want to watch videos that address the growth-maximizing size of government, click here, here, here, here, and here.
P.P.S. Surprisingly, the case for smaller government is bolstered by research from generally left-leaning international bureaucracies such as the OECD, World Bank, ECB, and IMF.
Moreover, there’s plenty of evidence that we can quickly get rid of deficits with some long-overdue spending restraint. In other words, deal with the underlying disease of excessive government and the symptom of red ink goes away.
But since many people focus first and foremost on fiscal balance, let’s take a look at why budget surpluses at the turn of the century have turned into big budget deficits.
I’m motivated to address this issue because of this chart from Brian Riedl’s impressive collection. It shows spending increases are responsible for 97.5 percent of the shift.
Some of you may be wondering if the chart is accurate. I can easily imagine my friends on the left exclaiming, “What about the Bush tax cuts and the Trump tax cuts?!?”
Those tax cuts did happen, but they were mostly offset by Obama’s “fiscal cliff” tax increase and real bracket creep (the tax burden tends to increase over time since even small increases in economic growth will push households into higher tax brackets).
So the net result of all these factors is that there has been a very small reduction (0.2 percentage points) in tax revenue as a share of economic output.
Others of you may be wondering if the spending numbers may be exaggerated because of pandemic-related spending.
That is a fair question since the crowd in Washington used the opportunity to spend a couple of trillion dollars. But the silver lining to that dark cloud is that it was almost entirely one-time spending that took place in 2020 and 2021 (for what it’s worth, budget experts have mocked Biden’s claim of deficit reduction this year since it is simply a result of expiring emergency outlays).
There is some one-time spending in 2022. As noted in the chart, Biden’s reckless student loan bailout is a big chuck of the increase in “other mandatory spending.”
As such, I suppose I should say that higher spending is “only” responsible for 96.8 percent of today’s higher deficits, not 97.5 percent.
P.S. According to the long-run forecast from the Congressional Budget Office, a bad situation will get even worse over the next 30 years. And more than 100 percent of that future decline will be the result of excessive spending (something that’s been true for many years).
Today, here are my thoughts on why there should not be a bailout if/when a crisis occurs.
I have moral objections to bailouts, but let’s focus in this column on the practical impact.
And let’s start with this chart, which shows debt levels in Portugal, Italy, Greece, and Spain (the so-called PIGS) ever since the misguided bailout of Greece about a dozen years ago.
As you can see, OECD data reveals that there’s been no change in these poorly governed nations. They have continued to over-spend and accumulate ever-higher levels of debt.
Defenders of bailouts assert that Greece was forced to engage in “austerity” as a condition of getting a bailout.
I have two problems with that argument.
First, notice how Greece’s debt has continued to go up. If that’s a success, I would hate to see an example of failure.
Second, the main effect of the so-called austerity is a much higher tax burden and a somewhat higher spending burden.
If there’s a bailout of Italy (or any other nation), I suspect we’ll see the same thing happen. Higher taxes, higher spending, and higher debt.
I’ll close by acknowledging that there are costs to my approach. If Italy is not given a bailout, the country may have a “disorderly default,” meaning the government simply stops honoring its commitments to pay bondholders.
That is bad for individual bondholders, but it also could hurt – or even bankrupt – financial institutions that foolishly decided to buy a lot of Italian government bonds.
But there should be consequences for imprudent choices. Especially if the alternative is bailouts that misallocate global capital and encourage further bad behavior.
The bottom line is that the long-run damage of bailouts is much greater than the long-run damage of defaults.
I’m in Europe to give a couple of speeches about fiscal policy, so I’m going to spend all week commenting on the continent’s (mostly miserable) fiscal policy.
Let’s start with comments about Italy, the nation most likely to suffer a crisis.
But I’ve also noted that governments sometimes spend so much money and incur so much debt that investors decide it is very risky to buy or hold debt from those governments. In other words, they begin to fear default.
When investors (sometimes known as “bond vigilantes”) reach that stage, they probably try to get rid of their holdings and definitely refuse to buy more debt. The net result is that profligate governments have to offer much higher interest rates to compensate for the risk of a possible default.
And if peruse this data from the OECD, you find that Italian government debt has jumped to levels that may be unsustainable.
So why has Italy avoided a crisis?
As noted in this article by Desmond Lachman, published by Inside Sources, the nation is being propped up by the European Central Bank.
In Europe, when the European Central Bank (ECB) soon dials back its bond-buying program, we are likely to find out that it is the Italian economy that has been swimming naked. This should be of deep concern for the Eurozone and world economies. While the Italian economy might be too large for its Eurozone partners to allow it to fail, it also might prove to be too large for them to bail it out. …The main factor that has allowed the Italian government to finance its ballooning budget deficit on favorable terms has been the ECB’s massive government bond-buying…the ECB used its emergency bond-buying program to more than fully finance the Italian government’s borrowing needs. …it must be only a matter of time before we have another round of the Italian sovereign debt crisis. …no longer being able to count on ECB bond-buying, the Italian government will have to increasingly finance itself in the market. It will have to do so with its public finances in a worse state than they were in during the 2012 debt crisis.
In the article, Lachman thinks a crisis is all but inevitable because the ECB is unwinding its pandemic-era money creation.
I agree about the ECB’s harmful role, but I fear the central bankers in Frankfurt will continue to do the wrong thing.
But, as explained in this video clip, the insult added to injury is that the resuscitated “Build Back Better” is being sold as the “Inflation Reduction Act.”
If a private company said that candy bars help you lose weight or that it is okay to stick your hand under a running lawnmower, it would be dragged into court for false and/or dangerous advertising.
But when politicians make utterly dishonest claims about legislation, we have to grit our teeth and endure their lies.
So why, then, did Biden, Schumer, and Manchin decide to affix such an inaccurate label to their tax-and-spend package?
The answer presumably is political. Inflation is a problem for the incumbent party, so why not pretend the budget plan will somehow reduce inflation. Heck, if they could get away with it, they would probably call it the “Inflation Reduction and Cancer Elimination Act.”
But, to be fair, perhaps some of them actually believe a big-government plan will have an impact on inflation. For instance, the misguided but honest folks at the Committee for a Responsible Federal Budget released an endorsement letter from 55 supposed experts based on the assumption that higher taxes will lead to lower prices.
Here are some excerpts.
With inflation at a 40-year high…, we are writing to encourage you to pass legislation to reduce budget deficits in a manner that would help counter inflation… As President Biden has explained, “bringing down the deficit is one way to ease inflationary pressures.” …Given the current state of the economy, we believe passing deficit reduction would send an important message to the American people that their leaders are serious about tackling inflation.
There are two big problems with the letter.
First, it is based on Keynesian economics, which assumes higher prices are caused by excessive “aggregate demand” and that deficit reduction (whether from tax increases or spending restraint) can help by slowing the economy.
Yet this is the theory that also told us that it was impossible to have rising prices and rising unemployment, like we saw in the 1970s. And Keynesians also said we couldn’t have falling unemployment and falling inflation, like we enjoyed in the 1980s.
Second, even if one believes in the fairy tale of Keynesian economics, all of the alleged deficit reduction occurs in future years.
And even that is nonsense since every sentient adult knows that the massive expansion of the IRS’s budget is not going to generate a windfall of new tax revenue. And every honest person also knows that lawmakers plan on extending the new Obamacare handouts in the bill.
These tweets summarize why even Keynesians should realize the legislation is fraudulent.
And what happens to the 10-year "deficit reduction" when the new Obamacare subsidies are extended after 2 years? Bizarre that NR editorial doesn't hit this point https://t.co/3TUDkEUCyLhttps://t.co/R86P2rUEbG
P.S. It is very disappointing (but perhaps not entirely surprising) that former Indiana Governor Mitch Daniels signed the CRFB letter. And it also is disappointing that a couple of people from the American Enterprise Institute added their names as well. They all deserve the Charlie Brown Award.
P.P.S. As I noted in the video, deficit spending can lead to inflation if a central bank buys government bonds in order to help finance additional government spending (the crazy Modern Monetary Theory agenda). Perhaps I am being too charitable, but I don’t think that’s the reason for the Federal Reserve’s big mistake (though I fear it may be happening with the European Central Bank).
Yesterday’s column analyzed some depressing data in the new long-run fiscal forecast from the Congressional Budget Office.
Simply stated, if we leave fiscal policy on auto-pilot, government spending is going to consume an ever-larger share of America’s economy. Which means some combination of more taxes, more debt, and more reckless monetary policy.
Today, let’s show how that problem can be solved.
My final chart yesterday showed that the fundamental problem is that government spending is projected to grow faster than the private economy, thus violating the “golden rule” of fiscal policy.
Here’s a revised version of that chart. I have added a bar showing how fast tax revenues are expected to grow over the next 30 years, as well as a bar showing the projection for population plus inflation.
As already stated, it’s a big problem that government spending is growing faster (an average of 4.63 percent per year) than the growth of the private economy (an average of 3.75 percent per years.
But the goal of fiscal policy should not be to maintain the bloated budget that currently exists. That would lock in all the reckless spending we got under Bush, Obama, and Trump. Not to mention the additional waste approved under Biden.
Ideally, fiscal policy should seek to reduce the burden of federal spending.
If government spending can only grow as fast as inflation plus population, we avoid giant future deficits. Indeed, we eventually get budget surpluses.
But I’m not overly concerned with fiscal balance. The proper goal should be to reduce the burden of spending, regardless of how it is financed.
And a spending cap linked to population plus inflation over the next 30 years would yield impressive results. Instead of the federal government consuming more than 30 percent of the economy’s output, only 17.8 percent of GDP would be diverted by federal spending in 2052.
P.S. A spending cap also could be modeled on Switzerland’s very successful “debt brake.”
P.P.S. Some of my left-leaning friends doubtlessly will think a federal budget that consumes “only” 17.8 percent of GDP is grossly inadequate. Yet that was the size of the federal government, relative to economic output, at the end of Bill Clinton’s presidency.
We’ll start with projections over the next three decades for taxes and spending, measured as a share of economic output (gross domestic product). As you can see, the tax burden is increasing, but the spending burden is increasing even faster.
By the way, some people think America’s main fiscal problem is the gap between the two lines. In other words, they worry about deficits and debt.
But the real problem is government spending. And that’s true whether the spending burden is financed by taxes, borrowing, or printing money.
So why is the burden of government spending projected to get larger?
As you can see from Figure 2-2, entitlement programs deserve the lion’s share of the blame. Social Security spending is expanding as a share of GDP, and health entitlements (Medicare, Medicaid, and Obamacare) are expanding even faster.
Now let’s confirm that the problem is not on the revenue side.
As you can see from Figure 2-7, taxation is expected to consume an ever-larger share of economic output in future decades. And that’s true even if the Trump tax cuts are made permanent.
Having shared three charts from CBO’s report, it’s now time for a chart that I created using CBO’s long-run data.
My chart shows that America’s main fiscal problem is that we are not abiding by fiscal policy’s Golden Rule. To be more specific, the burden of government is projected to grow faster than the economy.
To see the magnitude of the problem, let’s peruse the Budget and Economic Outlook, which was released yesterday by the Congressional Budget Office has some.
Most people are focusing on how deficits are going to climb from $1 trillion to $2 trillion-plus over the next 10 years.
That’s not good news, but we should be far more worried about the fact that the burden of government spending is growing faster than the private economy. As a result, government will be consuming an ever-larger share of national output.
The budget wonks who (mistakenly) focus on red ink say the problem is so serious that we need higher taxes.
They look at this chart, which is based on CBO’s baseline forecast (what will happen if taxes and spending are left on autopilot), and assert we have no choice but to raise taxes.
They point out that the annual deficit in 2032 will be almost $2.3 trillion and that it’s impossible cut spending by that much.
Needless to say, it would be a near-impossible political undertaking to cut $2.3 trillion in one year (though it would fulfill libertarian fantasies).
But what if, instead of kicking the can down the road, policymakers imposed some sort of overall spending cap to avoid a giant deficit in 10 year.
This second chart displays that scenario. I took CBO’s baseline (autopilot) numbers and assumed that spending could only increase by 1.4 percent annually starting in 2024.
As you can see, that modest bit of fiscal discipline completely eliminates the project $2.3 trillion annual deficit in 2032.
I’ll close by noting that there’s no need to fixate on whether the budget is balanced by 2032. What matters is trend lines.
It’s not good for government to grow faster than the private economy in the long run. And it’s not good for deficits and debt to climb as a share of economic output in the long run.
Both of those outcomes can be avoided if we have some sort of spending cap so that outlays grow slower than the private sector.
I prefer actual cuts (a requirement to reduce nominal spending each year).
I would be happy with a hard freeze (like we had for a few years after the Tea Party revolt).
As noted above, a 1.4 percent spending cap balances the budget by 2032.
But we would make progress, albeit slow progress, even if the spending cap allowed the budget to grow by 2.0 percent of 2.5 percent per year.
P.S. I start the spending cap in 2024 because spending is not projected to grow by very much between 2022 and 2023. That’s not because today’s politicians are being responsible, however. It’s simply a result of one-time pandemic emergency spending coming to an end. But since that one-time spending has a big impact on short-run numbers, I delayed the spending cap for one year.
P.P.S. The blue revenue line has a kink in 2025 because the baseline forecast assumes that many of the Trump tax cuts expire that year. If those tax cuts are extended or made permanent, revenues would be about $400 billion lower in 2032. As such, balancing the budget by that year would require a spending cap that allows annual outlays to increase by less than 0.9 percent per year.
But let’s set that aside and focus instead on a jaw-dropping claim from the White House.
Even though all of his major initiatives have increased red ink, he is patting himself on the back for lower deficits.
For what it is worth, Biden’s claim is semi-accurate. It is true that budget deficits are temporarily falling.
But not because of him. Instead, red ink is falling because there was massive, one-time, multi-trillion dollar emergency spending for the COVID pandemic in 2020. That spending began to wind down in 2021 and it has mostly dissipated this year, so of course deficits have fallen.
For Biden to take credit for this drop would be akin to Truman taking credit for the big drop in red ink after World War II ended.
Eric Boehm of Reason wrote a column that debunks Biden’s ludicrous claim.
…this year’s budget deficit is forecasted to be the third or fourth-largest in American history—but President Joe Biden claims…his administration is overseeing a period of fiscal austerity. …Here are some words that actually tumbled out of the president’s mouth at a press conference… “We’re on track to cut the federal deficit by another $1.5 trillion by the end of this fiscal year. …on top of us having a $350 billion drop in the deficit last year, my first year as president,” Biden continued. …Those facts, however, exclude a few key details. …Biden took office the year after the budget deficit hit previously unimaginable highs due to a completely unprecedented spending binge triggered by a once-in-a-generation public health disaster. …if you look at the actual budgetary baselines published by the Congressional Budget Office—that is, the ongoing amount of annual federal spending absent any emergency stimulus bills like the ones passed on several occasions during the height of the pandemic—Biden has overseen a noticeable increase in the deficit above the pre-pandemic baseline. According to the Committee for a Responsible Federal Budget, a fiscal watchdog group that advocates for lower deficits, Biden’s policies have added about $2.5 trillion to the deficit over the next 10 years.
Brian Riedl is now with the Manhattan Institute, but we used to work together earlier this century at the Heritage Foundation. One of his admirable traits is that he hasn’t lost the ability to be outraged.
That comes through in his tweet about Biden’s supposed accomplishment.
By the way, I’m not making a partisan point. I have no doubt Trump would have done the same thing.
I’ve identified seven reasons to oppose tax increases, but explain in this interview that the biggest reason is that it would be a mistake to give politicians more money to finance an ever-larger burden of government spending.
I had two goals when responding this question (part of a longer interview).
First, I wanted to help viewers understand that America’s fiscal problem is too much government spending and that red ink is simply a symptom of that problem.
Over the years, I’ve concocted all sorts of visuals to make this point. Like this one.
We also have decades of evidence from Europe. There’s been a huge increase in the tax burden in Western Europe since the 1960s (largely enabled by the enactment of value-added taxes).
Did that massive increase in revenue lead to less red ink?
Nope, just the opposite, as I showed in both 2012 and 2016.
P.S. Some people warn that endlessly increasing debt is a recipe for an eventual crisis. They’re probably right. Which is why it is important to oppose tax-increase deals that wind up saddling us with more red ink. Besides, the long-run damage of tax-financed spending is very similar to the long-run damage of debt-financed spending.
P.P.S. As I mention in the interview, the only real solution is spending restraint. And a spending cap is the best way of enforcing that approach.
This is a topic I’ve written about many times, noting that even left-leaning international bureaucracies like the IMF and OECD have reached the same conclusion.
For today’s discussion, I want to focus on a wonky but important observation. I mentioned in the presentation that the European Union’s “Maastricht Criteria” – which focus on controlling red ink – have not worked.
Those interested can click here for further background on these rules, but the key thing to understand is that eurozone nations agreed back in 1992 to limit deficits to 3 percent of economic output and to limit debt to 60 percent of GDP.
Has this approach worked?
Here’s the data, from a 2019 European Parliament report, on government debt for eurozone nations. Incidentally, the euro currency officially began in 2002, though nations were supposed to comply with the Maastricht Criteria starting back in 1993.
As you can see, debt has increased in most European nations. In may cases, debt is more than twice as high as the supposed maximum specified in the Maastricht Criteria.
And these are the “good” numbers. I deliberately chose data from a few years ago to make clear that the failure to comply with the Maastricht Criteria has nothing to do with the coronavirus pandemic.
What went wrong? Why did anti-red ink rules produce more red ink?
A big part of the answer is that politicians use anti-deficit and anti-debt rules as an excuse to raise taxes (which is what happened during Europe’s prior debt crisis).
We’ll start with this video from Kite and Key Media, which correctly observes that entitlement programs are the main cause of red ink.
I like that the video pointed out how tax-the-rich schemes wouldn’t work, though it would have been nice if they added some information on how genuine entitlement reform could solve the problem (as you can see here and here, I’ve also nit-picked other debt-themed videos).
But my main message, which I’ve shared over and over again, is that deficits and debt are merely a symptom. The underlying disease is excessive government spending.
Now let’s look at some recent articles on the topic.
We’ll start with Eric Boehm’s column for Reason, which explains how red ink has exploded in recent years.
America’s national debt exceeded $10 trillion for the first time ever in October 2008. By mid-September 2017 the national debt had doubled to $20 trillion. …data released by the U.S. Treasury confirmed that the national debt reached a new milestone: $30 trillion. …Entitlements like Social Security and Medicare are in dire fiscal straits and will become even more costly as the average American gets older. Even without another unexpected crisis, deficits will exceed $1 trillion annually, which means the debt will continue growing, both in real terms and as a percentage of the economy. The Congressional Budget Office estimates that the federal government will add another $12.2 trillion to the debt by 2031.
As already stated, I think the real problem is the spending and the debt is the symptom.
But it is possible, of course, that debt rises so high that investors (the people who buy government bonds) begin to lose faith that they will get repaid.
At that point, governments have to pay higher interest rates to compensate for perceived risk of default, which exacerbates the fiscal burden.
And if there’s not a credible plan to fix the problem, a country can go into a downward spiral. In other words, a debt crisis.
This is what happened to Greece. And I think it’s just a matter of time before it happens to Italy.
Could the United States also be hit by a debt crisis? Will we reach a “tipping point” that leads to the aforementioned loss of faith?
That’s one of the possibilities mentioned in the New York Timescolumn by Peter Coy.
It’s hard to know how much to worry about the federal debt of the United States. …Either the United States can continue to run big deficits and skate along with no harm done or it’s at risk of losing investors’ confidence and having to pay higher interest rates on its debt, which would suppress economic growth. …the huge increase in federal debt incurred during and after the past two recessions — those of 2007-09 and 2020 — has used up a lot of the “fiscal space” the United States once had. In other words, the federal government is closer to the tipping point where big increases in debt finally start to become a real problem. …any given amount of debt becomes easier to sustain as long as the growth rate of the economy (and thus the growth rate of tax revenue) is higher than the interest rate on the debt. In that scenario, interest payments gradually shrink relative to tax revenue. …but it doesn’t explain how much more the debt can grow. …Past a certain point, there’s a double whammy of more dollars of debt plus higher interest costs on each dollar. …sovereign debt crises tend to be self-fulfilling prophecies: Investors get nervous about a government’s ability to pay, so they demand higher interest rates, which raise borrowing costs and produce the bad outcome they feared. It’s a dynamic that Argentines are familiar with — and that Americans had better hope they never experience.
For what it’s worth, I think other major nations will suffer fiscal crisis before the problem becomes acute in the United States.
I realize this will make me sound uncharacteristically optimistic, but I’m keeping my fingers crossed that this will finally lead politicians to adopt a spending cap so we don’t become Argentina.
P.S. The Wall Street Journal recently editorialized on the issue of government debt and made a very important point about the difference between the $30 trillion “gross debt” and the “debt held by the public,” which is about $6 trillion lower.
…the debt really isn’t $30 trillion. About $6 trillion of that is debt the government owes to itself in Social Security and other IOUs. …The debt held by the public is some $24 trillion, which is bad enough.
As I’ve noted when writing about Social Security, the IOUs in government trust funds are not real.
Indeed, if you want to know whether some is both honest and knowledgeable about budget matters, ask them which measure of the national debt really matters.
As you can see from this exchange of tweets, competent and careful budget people (regardless of whether they favor big government or small government) focus on “debt held by the public,” which is the term for the money government actually borrows from credit markets.
If you want to know the difference between the various types of government debt – including “unfunded liabilities” – watch this video.
There are many reasons to support a spending cap, including the obvious observation that an expenditure limit (as it is sometimes called) directly addresses the actual problem of excessive government.
And addressing the underlying disease works better than rules that focus on symptoms, such as balanced budget requirements or anti-deficit mandates.
You’ll notice toward the end of the video that the narrator cites pro-spending cap research from international bureaucracies, which is remarkable since those institutions normally have a bias for bigger government.
I’ve also written about that research, citing studies by the International Monetary Fund (here and here), the Organization for Economic Cooperation and Development (here and here) and the European Central Bank (here).
Today, let’s look at more evidence from these bureaucracies.
We’ll start with a new study from the European Central Bank. Here’s some of what the authors (Nicholai Benalal, Maximilian Freier,Wim Melyn, Stefan Van Parys, and Lukas Reiss) found when comparing spending limits and anti-deficit rules.
…this paper provides an in-depth assessment of two alternative measures of fiscal consolidation and expansion:the change in the structural balance (dSB) and the expenditure benchmark (EB).Both the dSB and the EB are currently used to assess compliance with the fiscalrules under the Stability and Growth Pact (SGP). …The EB wasintroduced as an indicator in 2011, and has gained in importance relative to the dSBsince the European Commission began to put more emphasis on it in 2016. …A comparison of the fiscal performance of euro area countries revealssignificant differences depending on whether the assessment is based on the dSB orthe EB. …this paper finds that the EB has advantages over the dSB as a fiscalperformance indicator. …expenditure rules…provide more predictability in fiscal requirements. …Even more importantly, the EB can be shown to be less procyclical as a fiscal rule than the dSB.
Let’s also review some 2019 research from the International Monetary Fund.
This study (authored by Kodjovi Eklou and Marcelin Joanis) looks at whether fiscal rules can constrain vote-buying politicians.
In order to increase their chances of reelection, politicians are known to undertake fiscal manipulations, especially in election years. These fiscal manipulations typically take the form of increased public expenditure… Many countries, both developed and developing, have adopted fiscal rules in recent decades as an attempt to enforce fiscal discipline. …In this paper, we employ a cross-country panel dataset in order to test whether fiscal rules adopted in developing countries have been effective in constraining political budget cycles. The dataset covers 67 developing countries over the period 1985-2007. …Our dependent variable is the general government’s final consumption expenditure as a share of GDP.
Here’s what the authors concluded about the effectiveness of spending caps.
Our empirical evidence in a sample of 67 developing countries over the period 1985-2007, shows that fiscal rules cause fiscal discipline over the electoral cycle. More specifically, in election years with fiscal rules in place, public consumption is reduced by 1.65% point of GDP as compared to election years without these rules. Furthermore, the effectiveness of these rules depends on their type… In particular, expenditure rules, rules covering the general government and rules characterized by a monitoring body outside the government dampen political budget cycles in government consumption.
Indeed, footnote 12 of the paper specifically notes the superiority of expenditure limits.
…the results show that public consumption is reduced by 2.44% points during election years with expenditure rules in place. The findings on expenditure rules are consistent with Cordes et al. (2015) who show that the compliance rate for these rules are high.
Last but not least, the fiscal experts at the Office of Management and Budget included in Trump’s final budget some very encouraging language at the end of Chapter 10 of the Analytical Perspectives.
…additional efforts to control spending are needed. Several budget process reforms should be considered, including setting spending caps… Outlay caps that are consistent with the historical average as a share of gross domestic product (GDP), post-World War II levels could be enforced with sequestration across programs similar to other budget enforcement regimes. An outlay cap on mandatory spending would complement discretionary caps, which have been in place since 2013. The Budget proposes to continue discretionary caps through 2025 at declining levels and declining levels through 2030.
Trump was a big spender, of course, but at least there were people in his administration who realized there was a problem.
P.S. It’s also interesting that the authors of the IMF study found that fiscal rules work better in democracies.
…estimates focusing on the subsample of democratic elections. The effect of fiscal rules on the political budget cycle is larger… More specifically, public consumption is reduced by 2.46% point of GDP (while it is 1.65% point in the baseline).
This may not bode well for the durability of Hong Kong’s spending cap.
The authors also found that foreign aid makes it less likely that a government will follow sensible policy.
Foreign aid, which relaxes the budget constraint of the government, is negatively correlated with the probability of having fiscal rules.
Politicians like to spend money and they don’t particularly care whether that spending is financed by taxes or financed by borrowing (both bad options).
As Milton Friedman sagely observed, that means they will spend every penny they collect in taxes plus as much additional spending financed by borrowing that the political system will allow.
The IMF published a study on this issue about 10 years ago. The authors (Michael Kumhof, Douglas Laxton, and Daniel Leigh) assert that there’s no way of knowing whether Starve the Beast will lead to good or bad results.
…there is no consensus regarding the macroeconomic and welfare consequences of implementing a starve-the-beast approach, henceforth referred to as STB. …it could be beneficial in the ideal case in which it results in cuts in entirely wasteful government spending. In particular, lower spending frees up resources for private consumption, and the associatedlower tax rates reduce distortions in the economy. On the other hand, …lower government spending may itself entail welfare losses…if it augments theproductivity of private factors of production. …the paper examines whether the principal macroeconomic variables such as GDP and consumption, both in the United States and in the rest of the world, respond positively to this policy. …In addition, the paper assesses how the welfare effects depend on the degree to which government spending directly contributes to household welfare or to productivity.
The authors don’t really push any particular conclusion. Instead, they show various economic outcomes depending on with assumptions one adopts.
Since plenty of research shows that government spending is not a net plus for the economy (even IMF economists agree on that point), and because I think a less-punitive tax system is possible (and desirable) if there’s a smaller burden of government spending, I think the findings shown in Figure 4 make the most sense.
Now let’s shift from academic analysis to policy analysis.
In a piece for National Review back in July 2020, Jim Geraghty notes that Starve the Beast has an impact on government finances at the state level.
…we’re probably not going to see a massive expansion of government at the state level in the coming year or two. …Thanks to the pandemic lockdown bringing vast swaths of the economy to a halt, state tax revenues are plummeting. …So states will have much less tax revenue, constitutional balanced-budget requirements that are not easily repealed, and a limited amount of budgetary tricks to work around it. State governments could attempt to raise taxes, but that’s going to be unpopular and hurt state economies when they’re already struggling. Add it all up and it’s a tough set of circumstances for a dramatic expansion of government, no matter how ardently progressive the governor and state legislatures are.
Now let’s look at the most unintentional endorsement of Stave the Beast.
A couple of years ago, Paul Krugman sort of admitted that cutting taxes was a potentially effective strategy for spending restraint.
…the same Republicans now wringing their hands over budget deficits…blew up that same deficit by enacting a huge tax cut for corporations and the wealthy. …this has been the G.O.P.’s budget strategy for decades. First, cut taxes. Then, bemoan the deficit created by those tax cuts and demand cuts in social spending. Lather, rinse, repeat. This strategy, known as “starve the beast,” has been around since the 1970s, when Republican economists like Alan Greenspan and Milton Friedman began declaring that the role of tax cuts in worsening budget deficits was a feature, not a bug. As Greenspan openly put it in 1978, the goal was to rein in spending with tax cuts that reduce revenue, then “trust that there is a political limit to deficit spending.” …voters should realize that the threat to programs… Social Security and Medicare as we know them will be very much in danger.
In other words, Krugman doesn’t like Starve the Beast because he fears it is effective (just like he also acknowledges the Laffer Curve, even though he’s opposed to tax cuts).
Let’s close by looking at some very powerful real-world evidence. Over the past 50 years, there’s been a massive increase in the tax burden in Western Europe.
Did all that additional tax revenue lead to lower deficits and less debt?
Nope, the opposite happened. European politicians spent every penny of the new tax revenue (much of it from value-added taxes). And then they added even more spending financed by additional borrowing.
To be fair, one could argue that this was an argument for the view of “Don’t Feed the Beast” rather than “Starve the Beast,” but it nonetheless shows that more money in the hands of politicians simply means more spending. And more red ink.
P.S. I had a discussion last year with Gene Tunny about the issue of “state capacity libertarianism.”
This battle will be decided in next 12 months, hopefully with a defeat for Biden’s dependency agenda.
Regardless of how that fight is resolved, though, we’re eventually going to get to a point where sensible people are back in charge. And when that happens, we’ll have to figure out how to restore the nation’s finances.
That requires figuring out the appropriate goal. Here are two options:
Keeping taxes low.
Controlling debt.
These are both worthy objectives.
But, as a logic teacher might say, they are necessary but not sufficient conditions.
Here’s a chart showing how a policy of low taxes (the orange line) presumably enables faster growth, but also creates the risk of an eventual economic crisis if nothing is done to control spending and debt climbs too high (think Greece).
By contrast, the chart also shows that it’s theoretically possible to avoid an economic crisis with higher taxes (the blue line), but it means less growth on a year-to-year basis.
The economic benefits of this approach are illustrated in this second chart. We enjoy faster year-to-year growth. And, because spending restraint is the best way of controlling debt, the risk of a Greek-style economic crisis is averted.
Now for some caveats.
I made a handful of assumptions in the above charts.
The economy grows 2.0 percent annually for the next 31 years with tax-financed spending
The economy grows 2.5 percent annually with debt-financed spending, but suffers a 10 percent decline in Year 31.
The economy grows 3.0 percent annually for the next 31 years with smaller government (thus enabling low taxes and less debt).
Anyone can create their own spreadsheet and make different assumptions.
So feel free to make your own assumptions about the strength of these effects, but let’s never lose sight of the fact that spending restraint should bethe main goal for post-Biden fiscal policy.
Perhaps more relevant, that foregone economic growth would translate into more than $10,000 of lost compensation per job. And a lifetime drop in living standards of more than 4 percent for younger people.
And these numbers are based on research by the Congressional Budget Office, which is hardly a bastion of libertarian analysis.
The Biden White House has a different perspective.
How different? Well, the President actually claims that expanding the burden of government won’t cost anything.
I’m not joking. Here are some excerpts from an article in the Washington Post by Seung Min Kim and Tony Romm.
President Biden promised Friday that his sweeping domestic agenda package will cost “nothing” because Democrats will pay for it through tax hikes on the wealthy and corporations… The remarks were an attempt by Biden to assuage some of the cost concerns pointedly expressed by the moderate Democrats about the size of the legislation… The total spending outlined in the plan is $3.5 trillion… “It is zero price tag on the debt we’re paying. We’re going to pay for everything we spend,” Biden said in remarks from the State Dining Room at the White House.
Biden’s strange analysis has generated some amusing responses.
For instance, Gerard Baker opined in the Wall Street Journal about Biden’s magical approach.
…this is a novel way of estimating the cost of something. That eye-wateringly expensive dinner you had last week didn’t really cost you anything because you paid for it. …You could have used the money to invest in your children’s college fund. You could have paid off some of your credit card bill, the debt on which has quadrupled in the last year. But you chose instead to blow it on a few morsels of raw fish and a couple of bottles of 1982 Château Lafite Rothschild. Don’t worry, It didn’t cost you anything.
Biden and his team definitely deserve to be mocked for their silly argument.
For all intents and purposes, they want us to believe that there’s no downside if you combine anti-growth spending increases with anti-growth tax increases – so long as there’s no increase in red ink.
But there’s actually a fiscal theory that sort of supports what the White House is saying.
Capital (saving and investment) is a key driver of productivity and long-run growth.
Budget deficits divert capital from the economy’s productive sector to government.
Budget deficits raise interest rates, reducing incentives for investment.
For what it’s worth, all four of those statements are correct.
But the theory is nonetheless wrong because it elevates one variable – fiscal balance – while ignoring other variables that have a much bigger impact on economic performance.
For instance, the Congressional Budget Office at one point embraced this approach – even though it led to absurd implications such as growth being maximized with tax rates of 100 percent.
The White House today is basically embracing the IMF’s “austerity” argument that deficits/surpluses are the variable that has the biggest impact on growth.
P.S. Folks on the left must get whiplash because some days they embrace the Keynesian argument that deficits are good for growth and other days they argue that a big expansion of government will have zero cost because there is no increase in the deficit.
P.P.S. The folks on the right who focus solely on tax cuts also are guilty of elevating one variable while ignoring others (humorously depicted in this cartoon strip).
If I was required to put it all in one sentence (sort of), here’s the most important thing to understand about fiscal policy.
This does not mean, by the way, that we should be anarcho-capitalists and oppose all government spending.
But it does mean that all government spending imposes a burden on the economy and that politicians should only spend money to finance “public goods” that generate offsetting benefits.
I’m motivated to address this topic because Philip Klein wrote a column for National Review about Biden’s new spending. He points out that this new spending is bad, regardless of whether it is debt-financed or tax-financed.
As Democrats race toward squandering another $4.1 trillion — perhaps with some Republican help — we are being told over and over how the biggest stumbling block is figuring out how the new spending will be “paid for.” …Senator Joe Manchin (D., W.Va.), who is trying to maintain his image as a moderate, insisted that he doesn’t believe the spending should be passed if it isn’t fully financed. “Everything should be paid for,” Manchin has told reporters. …Republican members of the bipartisan group have also made similar comments. …But it is folly to consider massive amounts of new spending to be “responsible” as long as members of Congress come up with enough taxes to raise… At some point in the next few weeks, Democrats (and possibly Republicans) will announce that they have reached a deal on some sort of major spending compromise. They will claim that it is fully paid for, and assert that it is fiscally responsible. But there is nothing responsible about adding trillions in new obligations at a time when the nation is already heading for fiscal catastrophe.
Klein is correct.
Biden’s spending binge will be just as damaging to prosperity if it is financed with taxes rather than financed by debt.
The key thing to realize is that we’ll have less growth if more of the economy’s output is consumed by government spending.
Giving politicians and bureaucrats more control over the allocation of resources is a very bad idea (as even the World Bank, OECD, and IMF have admitted).
The good news is that there is still a simple solution to America’s fiscal problems. According to the just-released Budget and Economic Outlook from the Congressional Budget Office, tax revenues will grow by an average of 4.2 percent over the next decade. So we can make progress, as illustrated by this chart, if there’s some sort of spending cap so that outlays grow at a slower pace.
But even if we have more modest aspirations (avoiding future tax increases, avoiding a future debt crisis), it’s worth noting how modest spending restraint generates powerful results in a short period of time. And the figures in the chart assume the spending restraint doesn’t even start until the 2023 fiscal year.
The main takeaway is that the budget could be balanced by 2031 if spending grows by 1.5 percent per year.
But progress is possible so long as the cap limits spending so that it grows by less than 4.2 percent annually. The greater the restraint, of course, the quicker the progress.
In other words, there’s no need to capitulate to tax increases (which, in any event, almost certainly would make a bad situation worse).
P.S. The solution to our fiscal problem is simple, but that doesn’t mean it will be easy. Long-run spending restraint inevitably will require genuine reform to deal with the entitlement crisis. Given the insights of “public choice” theory, it will be a challenge to find politicians willing to save the nation.
P.P.S. Here are real-world examples of nations that made rapid progress with spending restraint.
But I have some good news. The GOP is finding religion and is once again fretting about big government.
The bad news is that many of them are total hypocrites.
The only reason that they’re now beating their chests about fiscal responsibility is that there’s now a Democrat in the White House pushing for big government rather than a Republican in the White House pushing for big government.
Talking a few days ago with Politifact, I remarked on the GOP’s battlefield conversion.
“The very narrow Democratic majorities in the House and Senate will make big policy changes difficult for Biden,” said Daniel Mitchell, a conservative economist with decades of experience in Washington. “Republicans were big spenders under Trump, but they’ll dust off their fiscal conservatism rhetoric with Biden in the White House. …”There will be unanimous, or near-unanimous, GOP opposition to the tax increases,” Mitchell said. That could make passage difficult.
I’m not the only one to notice Republicans change their spots when Democrats are in charge.
In her Washington Postcolumn, Catherine Rampell also notes their hypocrisy.
It’s almost like clockwork. As soon as a Democrat enters the White House, Republicans pretend to care about deficits again. …And so Republicans laid the groundwork for blocking the Biden administration’s request for more covid-19 fiscal relief, on the grounds that further spending is not merely unnecessary but also irresponsible. …These foul-weather fiscal hawks neglect to mention, …before the coronavirus pandemic — the Republican-controlled Senate passed and President Donald Trump signed spending bills that added…$2 trillion to deficits.
If Ms. Rampell’s column focused solely on Republicans behaving inconsistently, I would fully applaud.
Unfortunately, she also used the opportunity to make some assertions that deserve some pushback. Beginning with what she said about the 2017 tax reform.
It is true that the legislation is a short-run tax cut, but there’s no long-run revenue reduction because many of the provisions expire at the end of 2025.
And, as Brian Riedl made clear in this chart, the tax cuts only play a tiny role even if all the provisions ultimately are made permanent.
Ms. Rampell then makes a Keynesian argument that more spending would be stimulative.
…the U.S. economy actually needs more federal spending, and President Biden has proposed a $1.9 trillion plan… Republicans objecting to Biden’s proposal…seem to be writing off the need for more relief entirely, at least now that a Democrat is president.
Is she right about Republican hypocrisy? Yes.
Is she right that bigger government produces growth? No.
If Biden and the Democrats were simply arguing that some level of handouts are needed and justified to compensate for government-mandated shutdowns, I wouldn’t be happy, but I also wouldn’t complain.
But I do object to the mechanistic argument that government can magically produce prosperity by borrowing money from the economy’s left pocket and putting it in the economy’s right pocket.
She also engages in a bit of historical revisionism about Obama’s failed stimulus from 2009.
This is, not coincidentally, almost exactly what they did about a decade ago. …Republicans suddenly demanded to turn off fiscal (and monetary) spigots once Barack Obama was elected.
In reality, Republicans didn’t control either the House or Senate in Obama’s first two years. He was able to adopt his so-called stimulus. And the economy was stagnant.
Republicans did win the House at the end of 2010 and were somewhat successful in controlling spending for the next few years. And that’s when the economy did better.
P.S. I wish Politicifact had identified me as a libertarian. I’m only willing to be called a conservative if that means Reaganism, but I worry it now means Trumpism.
In such countries, it’s very common to find high levels of government debt as one of the symptoms of excessive spending.
This can create the conditions for a fiscal crisis, particularly during an economic downturn. Simply stated, investors (the people who buy government bonds) begin to worry that governments may renege on their promises (i.e., default).
There’s a must-read story on this issue in today’s Washington Post suggesting that the economic fallout from coronavirus has created conditions for new fiscal crises in nations across the globe.
Authored by Alexander Villegas, Anthony Faiola and Lesley Wroughton, the report explains that the downturn has produced record levels of debt.
Around the globe, the pandemic is racking up a mind-blowing bill: trillions of dollars in lost tax revenue, ramped-up spending and new borrowing set to burden the next generation with record levels of debt. In the direst cases — low- and middle-income countries, mostly in Africa and Latin America, that are already saddled with backbreaking debt — covering the rising costs is transforming into a high-stakes test of national solvency. …By the end of 2020, total government debt worldwide was projected to soar by $9 trillion and top 103 percent of global GDP, according to the Institute of International Finance — a historic jump of more than 10 percentage points in just one year. Countries have maxed out their figurative credit cards.
Keep in mind, by the way, that spending burdens were climbing in most nations, leading to more red ink, even before the pandemic.
And, the story explains that developed nations are far more vulnerable to fiscal crisis.
The pandemic is hurtling heavily leveraged nations into an economic danger zone, threatening to bankrupt the worst-affected. Costa Rica, a country known for zip-lining tourists and American retirees, is scrambling to stave off a full-blown debt crisis, imposing emergency cuts and proposing harsher measures that touched off rare violent protests last fall. …Angola, in contrast, effectively shut out of global markets, is racing to strike a deal with the Chinese, but even that might not be enough to prevent a painful debt crisis. Sri Lanka, locked in recession, needs to make $4 billion in debt payments this year with only $6 billion in the bank. Brazil’s debt, worsened by a yawning budget deficit, has surged to a crippling 95 percent of GDP — raising alarm over the medium-term ability of the Latin American giant to stay afloat. …Zambia, once a shining example of Africa’s economic renaissance, is now the Ghost of Crises Future for debt-burdened countries slammed by the pandemic. The sub-Saharan nation fell into default in November.
Here’s a visual from the report.
To simplify, it’s good to be in a lighter-colored nation and bad to be in a darker-colored country. At least in terms of national debt burdens.
All this grim data understandably raises the very important question of what choices governments should now make.
Analysts argue that the need for stimulus to keep economies running during this historically challenging period still outweighs the need to balance budgets. …the IMF…is telling countries that now is not the time to scrimp, lest they jeopardize still-fragile economic recoveries.
In the real world, there are two big lessons we should learn.
First, it’s profoundly reckless to further increase tax and spending burdens when nations are already in trouble because of previous bouts of fiscal profligacy.
Second, countries should focus on spending restraint in both the short run and long run, ideally by enacting caps to limit annual spending increases.
For purposes of today’s column, let’s focus on Principle #3, which is that “Deficits and debt are symptoms of the underlying problem” of excessive spending.
I’ve been making that point over and over and over and over and over again, but I feel motivated to address the issue again after reading two columns about government debt.
First, here’s some of what Paul Krugman wrote on the topic for his column in the New York Times.
…we’ve learned a lot about the economics of government debt over the past few years — enough so that Olivier Blanchard, the eminent former chief economist of the International Monetary Fund, is talking about a “shift in fiscal paradigm.” And the new paradigm suggests both that public debt isn’t a major problem and that government borrowing for the right purposes is actually the responsible thing to do. …It made some sense, nine or 10 years ago, to worry that the financial crisis in Greece was a harbinger of potential debt crises in other countries. …What briefly seemed like a spread of Greek-style problems across southern Europe turned out to be a temporary investor panic, quickly ended by a promise from the European Central Bank that it would lend money to cash-short governments if necessary. …We weren’t and aren’t anywhere close to that kind of crisis, and probably never will be. …But what about the longer term? …The important point for current discussion is that government borrowing costs are now very low and likely to stay low for a long time. …given what we’ve learned and where we are, it’s clear that the U.S. government should be investing heavily in the nation’s future, and that it’s OK, indeed desirable, to borrow the money we need to make those investments.
Second, Brian Riedl of the Manhattan Institute provides a different perspective in a column for today’s Washington Post, .
The election of Joe Biden to the presidency has prompted liberal calls to set aside pesky budget deficit concerns and go deeper into debt to finance large new spending initiatives… All these writers share the view that the persistence of low interest rates — currently about 1 percent for a 10-year Treasury bill — means the rules of the fiscal game have fundamentally changed. …But…deficit advocates must face two fundamental realities: First, the debt is already set to soar in the absence of any new spending. And second, these bloated debt levels will mean that any future rise in interest rates could bring a full-scale debt crisis. …Deficit doves are essentially gambling the future of the U.S. economy on the expectation that interest rates never again exceed 4 percent or 5 percent. …they are wrong to assume that state of affairs will continue. …Exceeding the projections by two or three points would mean annual interest costs consuming all projected tax revenue, leaving no taxes to finance normal federal programs. These debt spirals become nearly impossible to escape, as rising interest costs necessitate more borrowing, which in turn brings higher interest costs… Deficit doves would gamble America’s economic future on the hope that interest rates will never again top 4 or 5 percent. Are you feeling lucky?
At the risk of sounding like a muddle-headed, finger-in-the-wind moderate, I’m going to disagree with both of them (I’m like Goldilocks, who doesn’t want the porridge too hot or too cold).
I have a fundamental disagreement with Krugman because he’s overtly arguing for a bigger burden of government. Based on his past writings, he is willing to use higher taxes to finance some additional spending.
But the aforementioned column confirms that he’s in favor of a big amount of additional debt-financed spending as well.
He presumably wants to move the country into the lower-right quadrant of this 2×2 matrix, but doesn’t mind getting there by detouring through the lower-left quadrant.
My disagreement with Brian is probably more a matter of rhetoric. Based on his past writings, I think he wants to be in the upper-left quadrant, but he has an unfortunate tendency to fixate on the symptom of debt and deficits when he should be focusing on the underlying disease of excessive government spending.
My bottom line if that bigger government is a bad idea when it’s financed by debt, but it’s an equally bad idea if it’s financed by taxes.
Moreover, I worry when well-meaning people grouse about red ink because that creates an opening for not-so-well-meaning people to say, “I agree with you, so let’s raise taxes.”
P.S. In the real world of Washington (as opposed to blackboard theorizing), higher taxes lead to higher deficits and more debt.
P.P.S. Assuming they’re both sincere and guided by empiricism, people who care about red ink should support a spending cap.
P.P.P.S. Maintained for a sufficient period of time, spending restraint can even eliminate huge debt burdens.
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