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Fairy Tales of the SOTU Related to Deficit Reduction

In “All Together Now: There Is No Deficit/Debt Problem,” I warned against the message calling for deficit reduction that the President would probably deliver in his State of the Union Address. And in a series of later posts, I looked at 7 fairy tales I thought he would tell. Finally, in a summary post, I offered a table summarizing the fairy tales and corresponding truths. In this post, I’ll do a post-mortem. How many of the 7 fairy tales did he tell us? How heavily did he emphasize the non-existent deficit/debt problem? And what are likely to be the practical consequences of his continuing expressed concern about the deficits and the national debt?

How Many Fairy Tales?

1. The Government is running out of money. Maybe!

The President said that now that the worst of the recession is over, we now need to reduce Government deficits, and that it is not sustainable to spend more than Government takes in. He never said that this was because the Government is running out of money, but this is the clearest implication of the erroneous claim that deficits aren’t sustainable and that we need to reduce them. In any event it isn’t true that deficits aren’t sustainable.

In fact, in economies that have a trade deficit, and whose private sector wants to save, the leakage in aggregate demand from that private sector means that the Government must run a deficit equivalent to the leakage of demand to private savings and imports. If the Government refuses to run that deficit by cutting spending, raising taxes or both, then the private sector will be forced to both import less and save less, or not at all, and GDP will inevitably decline, as will employment, unless the private sector compensates for the lack of Government spending by saving less and eventually increasing private debt. This is not speculative. It is a consequence of the Macro-economic sectoral balance model based on an accounting identity. Again, If the Government forces deficit reductions, then the consequence of that is private sector and GDP shrinkage, or, if GDP is to increase, the private sector must save less, and finally incur debt, in response to the reduction in Government deficit spending.

So, ironically, it is not deficits that are unsustainable. Instead it is deficit reduction itself. The very thing the President, and even more, the Republicans, are calling for.

2. The Government can only raise money to spend by either taxing or borrowing. No!

3. We can’t keep adding debt to the national credit card. No!

4. We need to cut government spending and make do with no more money. Yes!

In saying that continued deficits are unsustainable and in mostly talking about spending cuts, the President seemed to buy into this one, even though he also said that the Bush tax cuts for the wealthy should not be extended further than they already have been. Of course, I don’t agree that we need to cut spending and make do with no more money. In fact, I think the acceptance of that is to accept high under- and unemployment. We simply don’t have enough deficit spending yet to create full employment.

In particular, we’ll be grievously hurt if we don’t help the States to meet their $140 Billion shortfall with a $500 per person revenue sharing plan, because the loss of State-level jobs about to occur will reverberate throughout the economy. We also need to stimulate consumption further, because unless demand is out there, business won’t spend and create those jobs. With a Republican House, the President should propose a payroll tax holiday for employers and employees until full employment is reached. That will immediately produce more aggregate demand with a high multiplier and get business spending. Finally, it makes no sense to sit around and wait for the privates sector to end unemployment, telling people that “prosperity is just around the corner.” That is Hooverism. What we need is a Federal Jobs Guarantee program for anyone who wants full-time work that will pay a miniwage plus Medicare health insurance and other fringe benefits. This program will be self-adjusting since it will pay a miniwage of $8.00 per hour, and the Government spending for it will automatically decline as the private sector hires people away from the program.

Measures like these are needed to create full employment once again and really get the economy growing. The President’s approach involving innovation, education, and infrastructure, funded through deficit neutral spending, will subtract aggregate demand from the economy, while it adds it. It’s possible that this approach may produce a positive Keynesian multiplier if the spending that’s cut has a lower multiplier than the new spending fulfilling the President’s approach. But if it doesn’t there won’t be a net gain in jobs. Also, unlike the measures I’ve described just above, the gains in jobs will be some time in coming, even if the Republicans cooperated. Meanwhile we have close to 20% under- and unemployment. Jobless Americans can’t wait for Hooverism to create new jobs. The human cost is too great, and if we continue to fiddle while waiting for businessmen to create new jobs, then we can’t just expect Main Street, to just sit quietly and endure its continuing descent into third-world poverty. It’s not going to happen. There will be political instability, and our political and economic oligarchs will have no one but themselves to blame.

5. If the Government borrows more money, the bond markets will raise our interest rates. No!

Perhaps this one isn’t quite so surprising Presidents don’t usually talk about Bond Markets in SOTU addresses

6. If we continue to issue more debt, our main creditors: the Chinese, the Japanese, and our oil suppliers, may cease to buy our debt making it impossible for us to raise money through borrowing which, in turn, would force us into radical austerity, or perhaps even into insolvency, which would then be followed by radical austerity and repudiation of our national obligations. No!

I was really surprised that the President didn’t tell this one. It’s really scary to many people.

7. Our grandchildren must have the heavy burden of repaying our national debt. No!

And I was really surprised that we didn’t hear about our grandchildren’s burden in the deficit reduction context, since that’s such a popular meme of the deficit hawks. So, the President gave us, at most 2 out of the 7 Fairy Tales. And all in all, there wasn’t a great deal of “shock doctrine” in the speech, which was a good thing. However, when the Republicans come back with their debt ceiling antics, and later when we get to the Omnibus spending bill, then we can expect a lot of shock doctrine from both sides and then we’ll see whether the President continues to defend Social Security as he appeared to do in this speech, with some language that appeared to leave room for cuts that wouldn’t be interpreted as “slashing” the program.

In addition, there was only one mention of Medicare and Medicaid in the speech, blaming them for the deficits and the deficit reduction problem, and given the deficit reduction framing of key parts of it, I think we can expect attempts to cut both Medicare/Medicaid. And, of course, the proposal to freeze “discretionary” spending for years to come, is effectively a cut in many of those programs, which would reduce aggregate demand, and have to be made up by private sector spending, at a time when the private sector is still more interested in saving than it is in spending.

How Heavily Was Deficit Reduction Emphasized?

On the surface, the emphasis on deficit reduction was light. This certainly wasn’t a Peter G. Peterson speech. Nor did it accept the proposal of the Co-Chairs of the Catfood Commission, Erskine Bowles and Alan Simpson. Nevertheless, the framing of all future advances in innovation, infrastructure, and education, was in the context of the importance and necessity of deficit reduction because, supposedly, continued deficits, presumably at the same level as we now enjoy, are unsustainable. So, this gives in to the Republican argument, shares their frame, and ensures that attempts to create jobs in the future, or to accomplish anything that will cost money, will have to be deficit neutral, or even projected to cut deficits, as the health care “reform” bill was. The President didn’t spout deficit hawkism, but his deficit dovism, combined with his emphasis on the need for bipartisan solutions to the “deficit problem,” doesn’t leave me with a great deal of confidence that ruinous cuts won’t be coming as part of a “necessary compromise” in response to Republican pressure.

Consequences of the President’s Deficit Reduction Orientation

The deficit reduction orientation in the speech, took a back seat to the over-riding theme of the need for increased national competitiveness. The President proposed spending on innovation, education, and infrastructure. Since that spending will have to be deficit neutral or even to involve surpluses, it may not be much of a job generator unless the private sector responds with decreased savings or even increased debt. So, that means there needs to be another source of jobs and also a way to reduce the leakage of demand to the trade sector. That means increasing exports. In fact, the President’s competitiveness model for progress implies that he wants America to be more like nations with export-led economies.

Good luck with that! It’s not that America can’t be competitive with other nations. We can certainly grow our competitiveness. But the problem is that all nations are attempting to reach prosperity this way, and that it is not possible for all to succeed. There must be some nations that lose in that race, and other nations that win. But even more important, if every nation is trying to have an export-led economy, then the competitors must race to the bottom in cutting costs, in order to be competitive. We know that in such races to the bottom the burden mostly falls on working people to cut their incomes and real wages. So, to engage in that kind of race may produce jobs for Americans. But it will be a very tough race against Europe, China, Japan, and India. And it’s very doubtful that it will produce good jobs for very long, or even at all, unless we are can completely reverse the trends of the past 40 years.

I’ve written about the race to the bottom before, and you can see what I think of it in more detail here and here. But, meanwhile, I’ll conclude by saying that in entering the race among export-led economies, the President is doing something else that will benefit the oligarchs and continue the United States on the road to plutocracy and undemocratic globalization. This isn’t really surprising to me since he seems to do very little that is aimed at any other result.

(Cross-posted at All Life Is Problem Solving and Fiscal Sustainability).

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Joseph M. Firestone, Ph.D. is Managing Director, CEO of the Knowledge Management Consortium International (KMCI), and Director and co-Instructor of KMCI’s CKIM Certificate program, as well as Director of KMCI’s synchronous, real-time Distance Learning Program. He is also CKO of Executive Information Systems, Inc. a Knowledge and Information Management Consultancy.

Joe is author or co-author of more than 150 articles, white papers, and reports, as well as the following book-length publications: Knowledge Management and Risk Management; A Business Fable, UK: Ark Group, 2008, Risk Intelligence Metrics: An Adaptive Metrics Center Industry Report, Wilmington, DE: KMCI Online Press, 2006, “Has Knowledge management been Done,” Special Issue of The Learning Organization: An International Journal, 12, no. 2, April, 2005, Enterprise Information Portals and Knowledge Management, Burlington, MA: KMCI Press/Butterworth-Heinemann, 2003; Key Issues in The New Knowledge Management, Burlington, MA: KMCI Press/Butterworth-Heinemann, 2003, and Excerpt # 1 from The Open Enterprise, Wilmington, DE: KMCI Online Press, 2003.

Joe is also developer of the web sites www.dkms.com, www.kmci.org, www.adaptivemetricscenter.com, and the blog “All Life is Problem Solving” at http://radio.weblogs.com/0135950, and http://www.kmci.org/alllifeisproblemsolving. He has taught Political Science at the Graduate and Undergraduate Levels, and has a BA from Cornell University in Government, and MA and Ph.D. degrees in Comparative Politics and International Relations from Michigan State University.

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