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"The Semi-Daily Journal of Economist Brad DeLong"

courtesy of Brad DeLong all rights reserved to Brad DeLong

September 03, 2011

Life in Hooverville

I remember the week after Obama's 2010 State of the Union Address, I had a few conversations with Obama Senior Administration Officials (and not the ones that you are thinking of either). I took particular exception to:

Remarks by the President in State of the Union Address 2010: [I]f we had taken office in ordinary times, I would have liked nothing more than to start bringing down the deficit.  But we took office amid a crisis.  And our efforts to prevent a second depression have added another $1 trillion to our national debt.  That, too, is a fact. I'm absolutely convinced that was the right thing to do.  But families across the country are tightening their belts and making tough decisions.  The federal government should do the same. So tonight, I'm proposing specific steps to pay for the trillion dollars that it took to rescue the economy last year.

Starting in 2011, we are prepared to freeze government spending for three years. Spending related to our national security, Medicare, Medicaid, and Social Security will not be affected.  But all other discretionary government programs will.  Like any cash-strapped family, we will work within a budget to invest in what we need and sacrifice what we don't.  And if I have to enforce this discipline by veto, I will. We will continue to go through the budget, line by line, page by page, to eliminate programs that we can't afford and don't work.  We've already identified $20 billion in savings for next year.  To help working families, we'll extend our middle-class tax cuts.  But at a time of record deficits, we will not continue tax cuts for oil companies, for investment fund managers, and for those making over $250,000 a year.  We just can't afford it. 

Now, even after paying for what we spent on my watch, we'll still face the massive deficit we had when I took office.  More importantly, the cost of Medicare, Medicaid, and Social Security will continue to skyrocket.  That's why I've called for a bipartisan fiscal commission, modeled on a proposal by Republican Judd Gregg and Democrat Kent Conrad. This can't be one of those Washington gimmicks that lets us pretend we solved a problem.  The commission will have to provide a specific set of solutions by a certain deadline.  Now, yesterday, the Senate blocked a bill that would have created this commission.  So I'll issue an executive order that will allow us to go forward, because I refuse to pass this problem on to another generation of Americans. And when the vote comes tomorrow, the Senate should restore the pay-as-you-go law that was a big reason for why we had record surpluses in the 1990s.   Now, I know that some in my own party will argue that we can't address the deficit or freeze government spending when so many are still hurting.  And I agree -- which is why this freeze won't take effect until next year, when the economy is stronger…

As I recall, I said back then:

1. There was absolutely no reason to start deficit reduction until the unemployment rate fell below 7.5% or until interest rates started to spike. To say that deficit reduction would start "next year" rather than "when the Lesser Depression is over" was an unforced error.
2. To appoint as co-chair of your deficit commission a long-term budget arsonist like Alan Simpson--who never in his entire legislative career found a budget-busting Republican measure he could vote against or a deficit-reducting Democratic measure he could vote for--was an unforced error.
3. To appoint as co-chair of your deficit commission a Republican like Alan Simpson who (a) does not bring with him a single vote in either legislative house, (b) is not terribly knowledgeable about budget issues, and (c ) is not terribly stable or prudent in his public utterances was an unforced error.
4. To appoint as the other co-chair of your deficit commission someone like Erskine Bowles whose initial negotiating position is where you want to ultimately end up was an unforced error. Much better to appoint somebody knowledgeable and persuasive who starts as far to the left of where Obama wants to wind up as Alan Simpson is to the right--an ex-cabinet member like Laura Tyson or Bob Reich, say.
5. For Obama to say that he is going to "freeze government spending" (which is $3.8 trillion/year) when what he means is to freeze non-security discretionary spending (which is $500 billion/year) is for Obama to simply tell a lie. The President should not lie in his State of the Union address. That was another unforced error.
6. If the President is saying that we need to shrink spending, what are we going to do if the recovery is not rapid or is not sustained? Obama has just thrown away a lot of his ability to get more stimulus through the Congress by calling for austerity, and in a year or two the country may well need him to have that ability. That was another unforced error.
7. To say that "families across the country are tightening their belts and making tough decisions. The federal government should do the same" is to get the economics completely wrong. Those times when the turn of the business cycle has households spending less than they earn and trying to build up their savings are, by the simple Keynesian logic of the situation, times when the government needs to be spending more than it takes in. It's bad economics, and when the President makes bad economic arguments in the State of the Union Address good economic policy becomes much more difficult. That was another unforced error.
8. OMB scoring conventions do not correspond to reality. For Obama to state that his policies had through the end of 2009 added "another $1 trillion to the national debt" was simply wrong. First, only a small portion of Recovery Act money had been spent by the end of 2009. Second, when the government can borrow at negative real interest rates at the margin and when multipliers are of a reasonable liquidity-trap size additional deficit spending effectively pays for itself. The right line is that although the government is spending more it is getting the overwhelming bulk of that spending back in extra taxes from those put to work as a result of the Recovery Act. That was another unforced error.

The responses were along the lines of: "Come on, Brad! A non-security discretionary freeze is only a shift in spending of $20 billion/year. It's lost in the rounding error either on the tax side or the entitlement side. All we have done is throw them some rhetorical bones. We actually haven't changed our macroeconomic policy. It is still highly stimulative."

This seemed to me to miss the important point that all that a President ever does is throw rhetorical bones (and veto laws, and deploy troops). Congress passes laws and in response agencies spend and the Treasury taxes. The Federal Reserve conducts monetary policy. the Treasury conducts banking policy. If the President talks about how we need the government to spend less and tax more, Congress is unlikely on its own account to pass laws that spend more and tax less even in the short term of dealing with the Lesser Depression. If the President talks about how the time for stimulative policies have passed, the Federal Reserve is less likely to put the pedal to the metal. If the President is talking about the importance of debt reduction, the Treasury is unlikely to focus on expanding the set of potential future government liabilities by intervening in financial markets to encourage investment by taking tail risk onto the government's books. The Presidency is a bully pulpit, but to a remarkable extent that is all that it is. And for Senior Administration Officials to dismiss what the President does is to mistakenly think that you are playing eleven-dimensional chess when your actual job is to roll Sisyphus's boulder up the hill.

And now here we are.

Paul Krugman:

The Austerity Economy: Do the dismal economic numbers really reflect the turn to fiscal austerity? I keep hearing people say no, because austerity hasn’t actually happened yet in America. But they’re wrong.

The fact is that the fading out of the stimulus, and in particular of aid to state and local governments, is already and noticeably leading to substantial withdrawal of government demand. Look, in particular, at actual government purchases of goods and services — governments at all levels buying stuff — which is what standard macroeconomics says should have the highest multiplier, since unlike transfers and tax cuts it is by definition spent rather than saved. Here’s the picture, showing changes in real spending over the previous year:

When the recession officially ended, spending was rising at an annual rate of around $60 billion; now it’s declining at an annual rate of $60 billion. That difference is around 1 percent of GDP, and maybe 1.5 percent once you take the multiplier into account. That makes the turn toward austerity a major factor in our growth slowdown.

Still, I guess the beatings will continue until morale improves.

And:

Fatal Distraction: Zero job growth, with unemployment still at nosebleed levels. Meanwhile, the interest rate on 10-year US bonds is down to 2.04%, and it’s negative on inflation-protected securities. Aren’t you glad we pivoted from jobs to deficits a year and a half ago?

Meanwhile, on the other side of the pond, Is austerity killing Europe’s recovery?

After more than a year of aggressive budget cutting by European governments, an economic slowdown on the continent is confronting policymakers from Madrid to Frankfurt with an uncomfortable question: Have they been addressing the wrong problem?

Yah think?

Too bad there weren’t any prominent economists warning that the obsession with short-term deficits was a terrible mistake, that austerity would undermine hopes of recovery. Oh, wait. The awful thing is that those of us who warned about all this — based not on some unorthodox doctrine, but on basic textbook macroeconomics — weren’t so much argued down as just ignored. Somehow, those with actual power were convinced that fiscal austerity wasn’t just an option but the only option, and that anyone arguing with that — even people like me and Joe Stiglitz, who had a few easy-to-understand credentials — were just not part of the serious discussion. I haven’t fully organized my thoughts on exactly why this happened. But whatever the reasons, we are now reaping the consequences of a disastrous distraction of policy makers, who have been fighting phantoms while the real problems festered.

And Duncan Black:

Eschaton: Maybe Somebody Should Do Something: If we define the "short term" as that period where any kind of government spending cuts are insane, the "short term" is now 3.5 years at least.

Obama's budget office initially calculated its economic forecast based upon data available through June. Even that data presaged an 8.8 percent average unemployment rate in 2011 and an 8.3 percent average rate next year. But the mid-session review got delayed, and when the Office of Management and Budget revised it to incorporate the data through the end of August, the picture became much gloomier. Unemployment will average 9.1 percent this year, and 9.0 percent next year, OMB concluded, and won't dip below 7 percent until 2015 at the earliest.

And, no, I don't want to hear about the need for deficit reduction anymore.

And:

Eschaton: Solvable: The important thing to remember is that the problems with the economy are completely solvable in ways that people with fancy Swedish prizes people have been recommending this whole time. Perhaps it's not entirely clear where exactly the blame lies, but there is mass economic suffering because the people who run the world have no idea what they're doing.

And Jay Ackroyd:

Eschaton: Infrastructure: Kevin Drum is on-board for a trillion over five years. Big Media Matt has always been on-board. This is absolutely no-brainer public policy. The rest of the world is paying US for the privilege of holding dollar denominated instruments. We can turn that money into rail stock, concrete and a reliable electricity grid. Yet, impossible. Not even worth the president's effort, or a concerted effort by the Democratic Senate to make the Republicans explain why we shouldn't build stuff with cheaper than free money.

The Chinese and the Indian historians are gonna make up some elaborate theories…

And Mark Thoma:

Economist's View: Remember the White House Jobs Summit? It was in December, 2009…. Obama [back then] was not interested in "taking a wait-and-see approach"? Here we are almost two years later and I would be hard-pressed to make a case that the summit marked the beginning of a serious attempt to create jobs. Apparently, being serious about job creation means that when poll numbers are down and a reelection can be seen in the distance, then it's time to pretend like you are doing something…. I think providing jobs and reducing the unemployment rate is the best strategy for reelection in any case…. If every speech, and every bit of effort had been devoted to job creation proposals instead of stupidly falling into the deficit reduction trap set by Republicans, we don't know how things would have differed. At the very least, workers would know without any doubt which side the administration was on. Right now, that isn't clear.

I remember being told that in January 2001 Larry Lindsey had showed up at the Council of Economic Advisers' office in the Eisenhower Executive Office Building and said "Well, the people who understand economics are back in charge!", and at the time I thought that Larry's belief that George W. Bush and his administration in any sense "understood" economics was the most pathetic and self-delusional thing that I had heard. But now I think of my confidence in December 2008 and January 2009 that the Obama administration understood that you needed not economic policies that sounded good and polled good but economic policies that actually worked, and I wince.